Q-1:Based on the analysis in case Exhibit 9, what is the anticipated CPK share p

Question

Q-1:Based on the analysis in case Exhibit 9, what is the anticipated CPK share price under each scenario? How many shares will CPK be likely to repurchase under each scenario? What role does the tax deductibility of interest play in encouraging debt financing at CPK?

Q-2:What capital structure policy would you recommend for CPK, and why? Please justify your recommendation.

Note: Based on following data how I can come up with the solutions. Two questions were mentioned above.

Case1 Exhibit 9 Debt/Total Capital Actual 10% 20% 30% ROE 8.99% 9.52% 10.19% 11.05% Cost of Debt (rd) 6.16% 0.0616 0.0616 0.0616 Page 1 of 1 41 Market Value Weights of Page 1 of 1 41 Debt 0.00% 3.47% 6.86% 10.18% Page 1 of 1 41 Equity 100.00% 96.53% 93.14% 89.82% Page 1 of 1 41 Levered Beta 85.00% 87.06% 89.23% 91.50% Page 1 of 1 41 Risk-Free Rate 5.25% 0.0525 0.0525 0.0525 Page 1 of 1 41 Market Premium 5.00% 0.05 0.05 0.05 Page 1 of 1 41 Cost of Equity (re) 9.50% 9.60% 9.71% 9.83% Page 1 of 1 41 WACC 9.50% 9.41% 9.33% 9.25% Page 1 of 1 41 Page 1 of 1 41 Page 1 of 1 41 Page 1 of 1 41 Current Share Price 22.10 22.1 22.1 22.1 Page 1 of 1 41 Current Outstanding Shares 29130000.00 29130000 29130000 29130000 Page 1 of 1 41 Present Value for Tax Savings 0 7341425 14682850 22023950 Page 1 of 1 41 Tax Savings for each stock 0.00% 7341425 14682850 22023950 Page 1 of 1 41 New Share Price 22.10 22.35 22.60 22.86 Number of Shares Repurchased 0.00 1010602.05 1998668.76 2964903.31 New Outstanding Shares 29130000.00 28119397.95 27131331.24 26165096.69

Explanation / Answer

Try using the MM I proposition to come up with the Firm Value post repurchases, which will give you a fair idea about the change in Firm value and help determine the ideal capital structure.

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