Effect of Debt Issuance on Stock Valuation

User Generated

RET2015

Business Finance

Description

Assignment Steps

Resources: Corporate Finance

Scenario: Hightower, Inc. plans to announce it will issue $2.0 million of perpetual debt and use the proceeds to repurchase common stock. The bonds will sell at par with a coupon rate of 5%. Hightower, Inc. is currently an all-equity company worth $7.5 million with 400,000 shares of common stock outstanding. After the sale of the bonds, the company will maintain the new capital structure indefinitely. The company currently generates annual pretax earnings of $1.5 million. This level of earnings is expected to remain constant in perpetuity. The tax rate is 35%.

Prepare write a memo to advise the management of Hightower, Inc. on the financial impact, including the following:

  • What is the expected return on the company's equity before the announcement of the debt issue?
  • Construct the company's market value balance sheet before the announcement of the debt issue. What is the price per share of the firm's equity?

User generated content is uploaded by users for the purposes of learning and should be used following Studypool's honor code & terms of service.

Explanation & Answer

Attached.

Running Head: EFFECT OF DEBT ISSUANCE ON STOCK VALUATION

Effect of Debt Issuance on Stock Valuation
Institution Affiliation
Date

1

EFFECT OF DEBT ISSUANCE ON STOCK VALUATION
Question 1

Expected return on the company's equity = Earnings after tax
Market value of the firm
The earning before tax = 1,500,000
T...


Anonymous
Excellent resource! Really helped me get the gist of things.

Studypool
4.7
Trustpilot
4.5
Sitejabber
4.4

Related Tags