Evaluate whether using the cash raised by the rights issue to buy back bonds is likely to be financially acceptable to the shareholders of Squid Inc. Squid Inc. is a public listed company that is concerned by its current level of debtfinance. It plans to make a right issue and use the funds raised to pay off some of itsdebt.The right issue will be at a 20% discount to its current ex-dividend share price of $7.50per share. Squid Inc. plans to raise $90 million. Squid Inc. believes that paying off someof its debt will not affect its price earnings (PE) ratio, which is expected to remainconstant.Income Statement information:$mTurnover472Cost of sales42349Profit before interest and taxInterest10Profit before tax39Тах1227Profit after taxStatement of Financial Position information:$mEquityOrdinary shares (S1 nominal)6080140ReservesLong-term liabilities8% bonds ($100 nominal)125265The 8% bonds are currently trading at $112.50 per bond and bondholders have agreedthat they will allow Squid Inc. to buy back the bonds at this market value. Squid Inc.pays tax at a rate of 30% per year.

The answer for the question on using the cash raised by the rights issue to buy back bonds is…

Answered: Evaluate whether using the cash raised…

Evaluate whether using the cash raised by the rights issue to buy back bonds is likely to be financially acceptable to the shareholders of Squid Inc.

Financial Management: Theory & Practice

16th Edition

ISBN:9781337909730

Author:Brigham

Publisher:Brigham

Chapter21: Dynamic Capital Structures And Corporate Valuation

Section: Chapter Questions

Problem 5MC: David Lyons, CEO of Lyons Solar Technologies, is concerned about his firms level of debt financing....

See similar textbooks

Similar questions

The common stock and debt of Northern Sludge are valued at $72 million and $12 million, respectively. Investors currently require a 16.4% return on the common stock and/an 7.3% return on the debt. If Northern Sludge issues an additional $12 million of common stock and uses this money to retire debt, what happens to the expected return on the stock? Assume that the change in capital structure does not affect the interest rate on Northern's debt and that there are no taxes. (Do not round intermediate calculations. Enter your answer as a percent rounded to two decimal places.)
Little Lemon Co. is identifying the value of its equity using the enterprise value approach as they have never issued dividends to-date because the Company is still at its early stages. With this, they have the following available information: The government's real free rate for its debt securities is estimated at 3.5% with an estimated inflation premium of 1.5%. The target capital structure of Little Lemon is at 60% debt and 40% equity Little Lemon was able to determine that its cost of debt is estimated as: With 3 years maturity - 6.50% With 4 years maturity - 7.0% With 5 years maturity - 8.0% The following are the information about the current debts issued by Little Lemon A 3-year maturity instrument carries a Php500,000 face value and 8.0% coupon A 5-year maturity instrument carries a Php500,000 face value and 8.0% coupon Considering the current crisis, equity investors generally demand a 3.5% premium over government securities Little Lemon's estimated beta is at 1.2 1.…
Little Lemon Co. is identifying the value of its equity using the enterprise value approach as they have never issued dividends to-date because the Company is still at its early stages. With this, they have the following available information: The government's real free rate for its debt securities is estimated at 3.5% with an estimated inflation premium of 1.5%. The target capital structure of Little Lemon is at 60% debt and 40% equity Little Lemon was able to determine that its cost of debt is estimated as: With 3 years maturity - 6.50% With 4 years maturity - 7.0% With 5 years maturity - 8.0% The following are the information about the current debts issued by Little Lemon A 3-year maturity instrument carries a Php500,000 face value and 8.0% coupon A 5-year maturity instrument carries a Php500,000 face value and 8.0% coupon Considering the current crisis, equity investors generally demand a 3.5% premium over government securities Little Lemon's estimated beta is at 1.2 1.…
Little Lemon Co. is identifying the value of its equity using the enterprise value approach as they have never issued dividends to-date because the Company is still at its early stages. With this, they have the following available information: The government's real free rate for its debt securities is estimated at 3.5% with an estimated inflation premium of 1.5%. The target capital structure of Little Lemon is at 60% debt and 40% equity Little Lemon was able to determine that its cost of debt is estimated as: With 3 years maturity - 6.50% With 4 years maturity - 7.0% With 5 years maturity - 8.0% The following are the information about the current debts issued by Little Lemon A 3-year maturity instrument carries a Php500,000 face value and 8.0% coupon A 5-year maturity instrument carries a Php500,000 face value and 8.0% coupon Considering the current crisis, equity investors generally demand a 3.5% premium over government securities Little Lemon's estimated beta is at 1.2 The…
The common stock and debt of Northern Sludge are valued at $66 million and $34 million, respectively. Investors currently require a return of 15.6% on the common stock and 8.1% on the debt. If Northern Sludge issues an additional $17 million of common stock and uses this money to retire debt, what happens to the expected return on the stock? Assume that the change in capital structure does not affect the risk of the debt and that there are no taxes (do not round intermediate calculations. Enter your answer as a percent rounded to two decimal places).
Qlink ltd is involved in manufacturing of fast -moving consumer goods.The firm is currently an all -equity firm with 30 million shares outstanding and stock price of Kshs.10 per share.The firm plans to announce that it will borrow Ksshs.400 million and use the funds to repurchase shares. The firm will pay interest only on this debt and has no plans to change its debt holding in future. The prevailing corporate tax rate is 30%.(i)What is the market value of the firm's existing existing assets before the announcement?(ii)What is the market value of the firm's assets(including tax shields) just after the debt is issued but before the shares are repurchased?(iii)What is the firm's share price just before the share repurchase?However many shares will Qlink Ltd repurchased?(iv) What are Qlink Ltd's market value balance sheet and share price after share repurchase?
The common stock and debt of Northern Sludge are valued at $72 million and $28 million, respectively. Investors currently require a 16.4% return on the common stock and a/an 7.3% return on the debt. If Northern Sludge issues an additional $12 million of common stock and uses this money to retire debt, what happens to the expected return on the stock? Assume that the change in capital structure does not affect the interest rate on Northern’s debt and that there are no taxes. (Do not round intermediate calculations. Enter your answer as a percent rounded to two decimal places.)
Guam Motors is presently an all equity firm. It needs to raise $2.5m in additional funds. After raising its funds, it expects perpetual EBIT to be $600,000. The firm's unlevered cost of equity is 12% and its before tax cost of debt is 8%. 1) If there are no corporate taxes, under M-M theory what is the value of Guam Motors if it employs common stock to raise the needed funds? 2)If there are no corporate taxes and Guam Motors employs debt to raise 50% of the firm value, what is the cost of equity, the weighted average cost of capital and the value of the firm? 3) If there are no corporate taxes and M-M theory holds, will investors prefer levered firm to the unlevered firm? Why? 4)Will the presence of corporate taxes increase or decrease the firm value? Why? 5)Assume that corporate tax is 25%. What is the all equity value of Guam Motors? 6)If the corporate tax is 25% and Guam Motors employees same amount of debt as in 2) to raise part of the firm value, what is the cost of equity,the…
Dollar General (DG) is choosing between financing itself with only equity or with debt and equity. Regardless of how it finances itself, the EBIT for DG will be $545.63 million. If DG does use debt, the interest expense will be $57.85 million. If DG‘s corporate tax rate is 0.30, how much will DG pay (in millions) in total to ALL investors if it uses both debt and equity? Instruction: Type ONLY your numerical answer in the unit of millions
David Lyons, CEO of Lyons Solar Technologies, is concerned about his firms level of debt financing. The company uses short-term debt to finance its temporary working capital needs, but it does not use any permanent (long-term) debt. Other solar technology companies have debt, and Mr. Lyons wonders why they use debt and what its effects are on stock prices. To gain some insights into the matter, he poses the following questions to you, his recently hired assistant: Now assume that Firms L and U are both subject to a 25% corporate tax rate. Using the data given in part b, repeat the analysis called for in parts b(1) and b(2) using assumptions from the MM model with taxes.
David Lyons, CEO of Lyons Solar Technologies, is concerned about his firms level of debt financing. The company uses short-term debt to finance its temporary working capital needs, but it does not use any permanent (long-term) debt. Other solar technology companies have debt, and Mr. Lyons wonders why they use debt and what its effects are on stock prices. To gain some insights into the matter, he poses the following questions to you, his recently hired assistant: d. Suppose that Firms U and L have the same input values as in Part c except for debt of 980,000. Also, both firms have total net operating capital of 2,000,000 and both firms are expected to grow at a constant rate of 7%. (Assume that the EBIT in part c is expected at t = 1.) Use the compressed adjusted present value (APV) model to estimate the value of U and L. Also estimate the levered cost of equity and the weighted average cost of capital.
David Lyons, CEO of Lyons Solar Technologies, is concerned about his firms level of debt financing. The company uses short-term debt to finance its temporary working capital needs, but it does not use any permanent (long-term) debt. Other solar technology companies have debt, and Mr. Lyons wonders why they use debt and what its effects are on stock prices. To gain some insights into the matter, he poses the following questions to you, his recently hired assistant: e. Suppose the expected free cash flow for Year 1 is 250,000 but it is expected to grow faster than 7% during the next 3 years: FCF2 = 290,000 and FCF3 = 320,000, after which it will grow at a constant rate of 7%. The expected interest expense at Year 1 is 128,000, but it is expected to grow over the next couple of years before the capital structure becomes constant: Interest expense at Year 2 will be 152,000, at Year 3 it will be 192,000 and it will grow at 7% thereafter. What is the estimated horizon unlevered value of operations (i.e., the value at Year 3 immediately after the FCF at Year 3)? What is the current unlevered value of operations? What is the horizon value of the tax shield at Year 3? What is the current value of the tax shield? What is the current total value? The tax rate and unlevered cost of equity remain at 25% and 14%, respectively.