An all-equity firm with 200,000 shared outstanding. Antwerther Inc. has $2,000,0

Question

An all-equity firm with 200,000 shared outstanding. Antwerther Inc. has $2,000,000 of EBIT, which is expected to remain constant in the future. The company pays out all of its earnings, so earnings per share (EPS) equal dividends per shared (DPS). Its tax rate is 40%. The company is considering issuing $5,000,000 of 10.0% bonds and using the proceeds to repurchase stock. The risk-free rate is 6.5% the market risk premium is 5.0%, and the beta is currently 0.90, but the CFO believes beta would rise to 1.10 if the recapitalization occurs. Assuming that the shared can be repurchased at the price that existed prior to the recapitalization, what would the price be following the recapitalization?

*Please provide the AMOUNTS of the equation

Explanation / Answer

Before recapitalization

return = risk free rate + beta*(risk premium)

= .065 + 0.9*(.05) = 11%

DPS = EPS = EBIT(1-T)/Shares = 2000000*(1-.4)/200000 = $6

P = DPS/return = 6/.11 = $ 54.55

Shares repurchased = Bonds issued/P = 91667

After recapitalization

return = .065 + 1.1*.05 = 12%

DPS = (EBIT-intrst rate*bonds)(1-tax)/shares

= $ 8.31

Price=8.31/.12 = $ 69.25

Shares outstanding 200000 Interest Rate 10% EBIT $2000000 Risk free rate 6.5% Dividend payout ratio 100% Market risk premium 5% Tax rate 40% beta before recap 0.9 bonds issued= stock repurchased $ 5000000 beta after recap 1.1

Related Questions

Navigate

• Browse (All)
• Browse A
• Subjects

---

---

Integrity-first tutoring: explanations and feedback only — we do not complete graded work. Learn more.