“Mark as Private question and Answers” Effect of Debt Issuance on Stock Valuation
Resources: Corporate Finance
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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 a 1,050-word memo advising the management of Hightower, Inc. on the financial impact, including the following:
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?
Construct the company’s market value balance sheet immediately after the announcement of the debt issue.
What is the company’s stock price per share immediately after the repurchase announcement?
Show all calculations and submit with your memo.
Format your paper consistent with APA guidelines.