Luther is a successful logistical services firm that currently has $5billion in

Question

Luther is a successful logistical services firm that currently has $5billion in cash. Luther has decided to use this cash to repurchase shares from its investors, and has already announced the stock repurchase plan. Currently, Luther is an all-equity firm with 1.25 billion shares outstanding. Luther’s shares are currently trading at $20 per share

With perfect capital markets, what is the market value of Luther’s equity after the share repurchase?

(1) $15 billion
(2) $10 billion
(3) $25 billion
(4) $20 billion

Explanation / Answer

Ans: $20 billion Since the capital markets are perfect, stock repurchase should not affect the stock price after the repurchase so the stock price should remain at $ 20 per share. Even though the company has lesser number of shares outstanding after the repurchase, cash for the company has also reduced (used for repurchase) and hence the net effect should be that the market value per share remains unchanged. With per share price of $20 and 1 billion shares outstanding, the total market value should be $20 billion.

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