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An all-equity firm with 200,000 shares outstanding, has $2,000,000 of EBIT, which is expected to remain...

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Finance

  • An all-equity firm with 200,000 shares outstanding, has$2,000,000 of EBIT, which is expected to remain constant in thefuture. The company pays out all of its earnings, so earnings pershare (EPS) equals dividends per share (DPS). Its tax rate is 40%.The company is considering issuing $5,000,000 of 10% bonds andusing 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 that the beta would rise to 1.10 if therecapitalization occurs. Assuming that the shares can berepurchased at the price that existed prior to therecapitalization, what would the price be following therecapitalization?

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4.1 Ratings (739 Votes)
First we will calculate the share price before recapitalization No of shares outstanding before recapitalization 200000 Constant EBIT 2000000 Since the firm is all equity firm hence debt 0 also interest expense 0 Net income before recapitalization EBIT interest1tax rate 2000000 0140 1200000 Earning per share before recapitalization Net income before recapitalization No of shares outstanding before recapitalization 1200000 200000 6 Since    See Answer
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An all-equity firm with 200,000 shares outstanding, has$2,000,000 of EBIT, which is expected to remain constant in thefuture. The company pays out all of its earnings, so earnings pershare (EPS) equals dividends per share (DPS). Its tax rate is 40%.The company is considering issuing $5,000,000 of 10% bonds andusing 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 that the beta would rise to 1.10 if therecapitalization occurs. Assuming that the shares can berepurchased at the price that existed prior to therecapitalization, what would the price be following therecapitalization?

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