Teardrop, Inc., wishes to expand its facilities. The company currently has 12 mi

Question

Teardrop, Inc., wishes to expand its facilities. The company currently has 12 million shares outstanding and no debt. The stock sells for $27 per share, but the book value per share is $41. Net income for Teardrop is currently $4.9 million. The new facility will cost $60 million, and it will increase net income by $840,000. The par value of the stock is $1 per share. Assume a constant price–earnings ratio. a-1. Calculate the new book value per share. Assume no change is applied to determine the number of new shares. (Do not round intermediate calculations and round your final answer to 2 decimal places. (e.g., 32.16)) a-2. Calculate the new total earnings. (Enter your answer in dollars, not millions of dollars, (e.g., 1,234,567). Do not round intermediate calculations and round your answer to the nearest whole dollar amount. (e.g., 32)) a-3. Calculate the new EPS. Assume incremental net income to be considered. (Do not round intermediate calculations and round your final answer to 4 decimal places. (e.g., 32.1616)) a-4. Calculate the new stock price. Assume incremental net income to be considered. (Do not round intermediate calculations and round your final answer to 2 decimal places. (e.g., 32.16)) a-5. Calculate the new market-to-book ratio. (Do not round intermediate calculations and round your final answer to 4 decimal places. (e.g., 32.1616)) b. What would the new net income for the company have to be for the stock price to remain unchanged?(Do not round intermediate calculations. Enter your answer in dollars, not millions of dollars, i.e. 1,234,567.)

Explanation / Answer

Number of shares after the offering = 12 million + $60 million/$27/share [Assuming there is no flotation costs]

Number of outstanding shares after the extension = 14.22 million

AS there is no change in the par value per share which is $1, the old book value of the shares is the current number of shares outstanding.

Now, New book value per share = [12 million x $41 + 2.22 million x $27]/14.22 million = $38.81

The current EPS for the company is: $4.9 million / 12 million shares = $0.4083

The current P/E is: $27/$0.4083 = 65.85

If the net income increases by $840,000, the new EPS will be: $5.74 million / 14.22 millions shares = $0.4036 per share

On an assumption of the P/E remains constant,

the new share price will be computed as follows:

(P/E) x (New EPS) = 65.85 x $0.4036 = $26.58

As a result, the share price will decline from $27 to $26.58

The current market to book value is: $27/$41 = 0.6585

Now let us use the new share price and book value per share to compute the new market-to-book ratio which will be: $26.58/$38.31 = 0.6938

The cost of the project is given at $60 million. The NPV of the project is the new market value of the firm minus the current market value of the firm or: NPV = -$60 million + [14.22 million x $26.58 – 12 million x $27] = -$6.0324

b. Net Income = (14.22 million shares) x $0.4083/share = $5.8065 million.

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