Based on the current capitalization, KHM Sdn Bhd has made the following forecast for the coming year: Interest expense RM2,000,000 Operating income (EBIT) RM40,000,000 Earnings per share RM4.00 The company has RM20,000,000 worth of debt outstanding and all of its debt yields 10 %. The company’s tax rate is 30%. The company’s price earnings (P/E) ratio has traditionally been 10. The company’s investment bankers have suggested that the company recapitalize. Their suggestion is to issue enough new bonds at a yield of 10% to repurchase 1,400,000 shares of common stock. Assume that the repurchase will have no effect on the company’s operating income; however, the repurchase will increase the company’s dollar interest expense. Also, assume that as a result of the increased financial risk, the company’s price earnings (P/E) ratio will be 10.5x after the repurchase. What would be the expected year-end stock price if the company proceeded with the recapitalization? Should KHM proceed with the recapitalization?
Based on the current capitalization, KHM Sdn Bhd has made the following forecast for the coming year: Interest expense RM2,000,000 Operating income (EBIT) RM40,000,000 Earnings per share RM4.00 The company has RM20,000,000 worth of debt outstanding and all of its debt yields 10 %. The company’s tax rate is 30%. The company’s price earnings (P/E) ratio has traditionally been 10. The company’s investment bankers have suggested that the company recapitalize. Their suggestion is to issue enough new bonds at a yield of 10% to repurchase 1,400,000 shares of common stock. Assume that the repurchase will have no effect on the company’s operating income; however, the repurchase will increase the company’s dollar interest expense. Also, assume that as a result of the increased financial risk, the company’s price earnings (P/E) ratio will be 10.5x after the repurchase. What would be the expected year-end stock price if the company proceeded with the recapitalization? Should KHM proceed with the recapitalization?
Chapter9: Capital Budgeting And Cash Flow Analysis
Section: Chapter Questions
Problem 20P
Related questions
Question
Based on the current capitalization, KHM Sdn Bhd has made the following forecast for the coming
year:
Interest expense RM2,000,000
Operating income (EBIT) RM40,000,000
Earnings per share RM4.00
The company has RM20,000,000 worth of debt outstanding and all of its debt yields 10 %. The
company’s tax rate is 30%. The company’s price earnings (P/E) ratio has traditionally been 10.
The company’s investment bankers have suggested that the company recapitalize. Their
suggestion is to issue enough new bonds at a yield of 10% to repurchase 1,400,000 shares of
common stock.
Assume that the repurchase will have no effect on the company’s operating income; however, the
repurchase will increase the company’s dollar interest expense. Also, assume that as a result of
the increased financial risk, the company’s price earnings (P/E) ratio will be 10.5x after the
repurchase.
What would be the expected year-end stock price if the company proceeded with the
recapitalization? Should KHM proceed with the recapitalization?
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Step 1: Given:
VIEWStep 2: Calculate Current Market price per share and number of Shares outstanding before recapitalization:
VIEWStep 3: Calculate Net Income,Amount need to issued and number of shares after Recapitalization:
VIEWStep 4: Calculate Earning per Share and Market price of Share after recapitalization:
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