blaine case

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THE FIRM IN THE CAPITAL MARKET

PROFESSOR: STEVE JONES
11/10/2013

MEMORANDUM
To: Victor Dubinski, CEO of Blaine Kitchenware, Inc.
From: Zhangkai Zhou Kelley School of Business MSA student
Subject: Is it a good idea for BKI to repurchase its own stocks?
Date: Nov 19, 2013

There is a banker pointed out that BKI is currently highly over-liquid and under-levered. He suggested to borrow money and to buy back own shares. In detail, the proposal is involves that borrowing another $50 million and paying a 13.8% premium to buy back 14million (23.7%*59m) of the outstanding shares. After reviewed company’s current debt, equity and leverage levels situation, I believe that it is
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There are some disadvantages coming with it as well.
Although using leverage could create more value for the company, in a great extent, it will increase the risk of the company.
Although stock prices could increase when the company began to repurchase, they might fall down once the repurchase is finalized.
Considering to those disadvantages, probably some members of Board will question that paying a large special dividend of $4.39 per share may have the same effect with repurchase shares. I do not believe that we can pay large special dividend could instead of shares repurchase. There are several reasons.
Firstly, the goal of the share repurchase is maximum the shareholder’s value rather than paying dividend.
On the other hand, the BKI is currently highly over-liquid and under-levered, paying dividend definitely cannot solve this problem.
What’ s more, although investors like the dividend, it is just period solution to attack people and it may not be able to keep the company growing in a long run.
Summary
Based on the analysis above, we can got the more leveraged by debt the lower the amount of the tax income will be. $50 million loan will create $0.34 per share tax benefit. If the loan was $259 Million it will reach to $1.75 per share. On the other hand, the EPS will increase from 0.91 to 0.93. In the same industry, a higher EPS is a good signal for investors. What’s more, the ROE will increase from 11% to 18%. As for the static trade-off model
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