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Mini Case No. 15 Capital structure policy
Presented by:
Mohammad Osman Goni
Total Current liabilities $39,260,000,000
Short Term Debt $3,186,000,000
Long term debt $4,997,000,000
Total Assets $88,699,000,000
Debt ratio=Book value of liabilities/Total Asset 53.49%
I nterest bearing debt ratio=Book value of interest bearing
debt/(Total Assets) 9.23%
Q: Describe the capital structure of Hewiett-Packalcl (HP) using both
the debt ratio and interest-bearing debt ratio.
Debt-to-assets ratio or simply debt ratio is the ratio of total liabilities of a
business to its total assets.
Debt ratios are calculated to determine a companys debt load, which is an indicator
of its level of risk, and its leverage.
The percentage of which the companys costs are finance with debt is 53.49 %.
The interest-bearing debt ratio is significant because it gives a window into the
financial health of a company.
Q: What is Hewiett-Packard's times interest earned ratio?
Times interest earned (also called interest coverage ratio) is the ratio of earnings
before interest and tax (EBI T) of a business to its interest expense during a given
period. I t is a solvency ratio measuring the ability of a business to pay off its debts.
Times Interest Earned Ratio
Earnings before Interest and Tax
Interest Expense
$9,466,000,000 /$289,000,000
=32.75 %
Higher value of times interest earned ratio is favorable meaning greater ability of a
business to repay its interest and debt where lower values are unfavorable.
Times interest earned ratio for 2006

29.88
Times interest earned ratio for 2005

17.40
A ratio of 1.00 means that income before interest and tax of the business is just
enough to pay off its interest expense.
Principal payment $3,000,000,000
Net income 7,264,000
Interest Expense for 2007 $289,000,000
Income Tax $1,452,800
Interest pament $600,000,000
EBITDA $1,297,716,800
EBI TDA Coverage ratio for 2007 0.36
Q: EBI TDA coverage ratio for 2007? (Hint: HP's tax rate is 20% and
depreciation is $ 1 billion.)..
EBI TDA coverage ratio is a solvency ratio that measures a company's ability to pay
off its liabilities related to debts and leases.
EBI TDA coverage ratio is broader than the times interest earned ratio, which
measures a company's ability to pay interest charges on debt.
EBITDA = Net Income + Tax + Interest + Depreciation + Amortization
EBITDA Coverage Ratio =
EBITDA
Interest Payments + Principal
Repayments
Total Assets of Apple $25,347,000,000
Number of shares of Apple 2,470,000,000
Net Income of Apple for 2007 $3,496,000,000
Stockholder equity $14,532,000,000
Bond Interest rate 8.00%
Interest bearing ratio for HP 9.23%
Q Suppose Apple has decided to issue debt financing and use the proceeds to purchase some of
its shares of stock from the open market. What fraction of the firm's 2.47 billion shares does
the firm need to repurchase so as to make its interest bearing debt ratio equal to that of HP?
I f Apple had carried out the transaction by issuing bonds with an 8% rate of interest, what
would its earnings per share have been in 2007?
Debt to make Interest bearing ratio equal to HP $107,252,939.49
Fraction of shares to be brought with this debt(Assuming
Book vale of equity is equal to market value) $227,871,903.85
Earnings per share without debt $1.42
Earnings per share with debt $.24
Earnings per share (EPS) ratio measures how many dollars of net income have been
earned by each share of common stock.
The change would increase firm earnings per share(EPS) but would also pose an
increase in the financial risk of the firm.
Financial risk also refers to the possibility of a corporation or government
defaulting on its bonds, which would cause those bondholders to lose money.
The possibility that shareholders will lose money when they invest in a company
that has debt, if the company's cash flow proves inadequate to meet its financial
obligations.
Ultimately, the decision to incur debt financing is a judgment call based on the
perceptions of the firm as to the operating risk the firm faces traded off against the
prospects of reporting higher earnings per share.
A higher EPS is the sign of higher earnings, strong financial position and,
therefore, a reliable company to invest money
Q: Do you think that the proposed change of capital structure makes good
financial sense? Why or why not?