Tapley Inc. currently has total capital equal to $6 million, has zero debt, is i

Question

Tapley Inc. currently has total capital equal to $6 million, has zero debt, is in the 40% federal-plus-state tax bracket, has a net income of $2 million, and pays out 40% of its earnings as dividends. Net income is expected to grow at a constant rate of 6% per year, 110,000 shares of stock are outstanding, and the current WACC is 13.20%. The company is considering a recapitalization where it will issue $5 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 9% and its cost of equity will rise to 16.5%. a. What is the stock's current price per share (before the recapitalization)? Round your answer to the nearest cent. b. Assuming that the company maintains the same payout ratio, what wll 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 steps.

Explanation / Answer

a.     Net Income 2000000 Dividend payout 40% So, Retention ratio(1-40%)= 60% ie. 1200000 PV of firm using net income approach Next yr. Net Income/(WACC-g)= (1200000*1.06)/(13.2%-6%)= 17666667 So, value of firm 17666667 No.of shares o/s 110000 So, current price of stock 160.61 b.    Net Income 2000000 Less: After-tax Interest on debt 270000 Net income to equity SH 1730000 Dividend payout 40% So, Retention ratio(1-40%)= 60% ie. 1038000 PV of equity using net income approach Next yr. Net Income/(Ke-g)= (1038000*1.06)/(16.5%-6%)= 10478857 So, value of equity 10478857 Value of Debt 5000000 No.of shares that can be re-purchased=5000000/160.61= 31131 so, No.of shares o/s(110000-31131) 78869 So, price of stock after recapitalisation 132.86 (10478857/78869)=

Related Questions

Navigate

• Browse (All)
• Browse T
• Subjects

---

---

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