St Johns University FInance Worksheet

The owners’ equity accounts for Vento Unlimited are shown here:

Common stock ($.50 par value)	$ 25,000
Capital surplus	$215,000
Retained earnings	$642,700
Total owners’ equity	$882,700

a. If the company’s stock currently sells for $32 per share and a 10 percent stock dividend is declared, how many new shares will be distributed? Show how the equity accounts would change.

b. If the company declared a 25 percent stock dividend, how would the accounts change?

2. For the company in Problem 1, show how the equity accounts will change if:

a. The company declares a four-for-one stock split. How many shares are outstanding now? What is the new par value per share?

b. The company declares a one-for-five reverse stock split. How many shares are outstanding now? What is the new par value per share?

3. New Value Corp (NVC) most recent free cash flow (FCF) was $525 million; the FCF is expected to grow at a constant rate of 2.5%. The firm’s WACC is 15%, and it has 9 million shares of common stock outstanding. The firm has $200 million in short-term investments, which it plans to liquidate and distribute to common shareholders via a stock repurchase; the firm has no other non-operating assets. It has $968 million in debt and $260 million in preferred stock.

a. What is the value of operations?
b. Immediately prior to the repurchase, what is the intrinsic value of equity?
c. Immediately prior to the repurchase, what is the intrinsic stock price?

d. How many shares will be repurchased? How many shares will remain after the repurchase?

e. Immediately after the repurchase, what is the intrinsic value of equity? The intrinsic stock price?

4. Bernie’s Burgers (BB)currently has 1,000,000 shares of stock outstanding that sell for $94 per share. Assuming no market imperfections or tax effects exist, what will the share price be after:

a. BB has a five-for-three reverse stock split?

b. BB has a 8 percent stock dividend?

c. BB has a 30.5 percent stock dividend?

d. BB has a four-for-seven stock split?

e. Determine the new number of shares outstanding in parts (a) through (d).

5. Define the following terms

a.Signaling hypothesis; clientele effect

b.Residual distribution model; extra dividend

c.Declaration date; holder-of-record date; ex-dividend date; payment date

d.Dividend reinvestment plan (DRIP)

e.Stock split; stock dividend; stock repurchase

Some videos you may find helpful.

M&M Dividend Irrelevance Theory

Ex-Dividend Date

Stock Splits, Dividends and Repurchases

1.What is operating leverage, and how does it affect a firm’s business risk? Show the operating break-even point if a company has fixed costs of $1,000, a sales price of $18, and variables costs of $10.

Assume you have just been hired as a business manager of Gary’s Guacamole a regional health food restaurant chain. The company’s EBIT was $100 million last year and is not expected to grow. The firm is currently financed with all equity and it has 10 million shares outstanding. When you took your corporate finance course, your instructor stated that most firm’s owners would be financially better off if the firms used some debt. When you suggested this to your new boss, he encouraged you to pursue the idea. As a first step, assume that you obtained from the firm’s investment banker the following estimated costs of debt for the firm at different capital structures:

% Financed With Debt r_d

0% —

25 9.0%

35 9.5

45 11.0

55 13.0

If the company were to recapitalize, debt would be issued, and the funds received would be used to repurchase stock. Gary’s Guacamole is in the 25 percent state-plus-federal corporate tax bracket, its beta is .95 the risk-free rate is 5 percent, and the market risk premium is 7.5 percent.

Now, to develop an example which can be presented to Gary’s Guacamole management to illustrate the effects of financial leverage, consider two hypothetical firms: Firm U, which uses no debt financing, and Firm L, which uses $35,000 of 8 percent debt. Both firms have $80,000 in assets, a 25 percent tax rate, and an expected EBIT of $15,000.

2.Construct partial income statements, which start with EBIT, for the two firms.

3.Now calculate ROE for both firms.

1. What does this example illustrate about the impact of financial leverage on ROE?

5.What happens to ROE for Firm U and Firm L if EBIT falls to $4,000? What does this imply about the impact of leverage on risk and return?

6.For each capital structure under consideration, calculate the levered beta, the cost of equity, and the WACC.

7.Now calculate the corporate value.

Videos you may find helpful.

Break Even Analysis

http://www.youtube.com/watch?v=8QhZIrcm-g0&feature=youtu.be

Break Even Analysis on the TI BA II https://www.youtube.com/watch?v=sOPiuppRadk

Operating Leverage

http://www.youtube.com/watch?v=fdwZ9Iej3H0&feature=youtu.be

EBIT/EPS Analysis

http://www.youtube.com/watch?v=MuRAuY8fBNQ&feature=youtu.be

Capital Structure – Homemade Leverage

http://www.youtube.com/watch?v=5R8ToYeTYfg&feature=youtu.be

M&M Propositions I & II No Taxes and No Bankruptcy Costs

http://www.youtube.com/my_videos_edit?ns=1&feature=vm&video_id=SX-UX_n-6mY

M&M Propositions I & II CorporateTaxes and No Bankruptcy Costs

http://www.youtube.com/watch?v=gxKcxR5p6EA&feature=youtu.be

M&M Propositions I & II CorporateTaxes and Bankruptcy Costs

http://www.youtube.com/watch?v=WxFfby_OrPk&feature=youtu.be

Leveraged Beta