Please help me answer RECAPITALIZATION Tartan Industries currently has total cap
ID: 2792143 • Letter: P
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Please help me answer
RECAPITALIZATION Tartan Industries currently has total capital equal to $9 million has zero debt, is the 40% federal plus state tax bracket has a net income o million, and distributes 40% of its earnings as dividends. Net income is expected to grow at a constant rate of 3% per year, 410,000 shares of stock are outstanding, and the current WACC is 12.40%. The company is considering a recapitalization where it will issue $4 million in debt and use the proceeds to repurchase stock. Investment bankers have estimated that if the company goes through with the recapitalization, its before-tax cost of debt will be 11% and its cost of equity will rise to 15.5%. a. What is the stock's current price per share (before the recapitalization)? Round your answer to the nearest cent. Do not round intermediate steps b. Assuming that the company maintains the same payout ratio, what will be its stock price following the recapitalization? Assume that shares are repurchased at the price calculated in part a. Round your answer to the nearest cent. Do not round intermediate stepsExplanation / Answer
a) Dividend amount = 40% of earnings = .4 * 3 million = $ 1.2 million
Current Dividend per share = 1,200,000/410,000 = $ 2.92
expected to grow at 3%, so next dividend = 2.92*1.03 = $ 3
So price = dividend /(wacc - growth) = 3/(.124-.03) = $ 31.91
b)
EBit before recapitalization = 3000000 /(1-.4) = 5,000,000
The firm is 100% equity financed, so there is no interest expense
Now net income after recapitalization = (5,000,000-.11*(3000000))*.6 = 2,802,000
Number of shares outstanding after recapitalization
= 410000-(3000000/31.91) = 315985 shares
Now dividend after recap = .4*(2802000/315985) = $ 3.54
Price after recap = 3.54/(.155-.03) = $ 28.32
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