5. Executive Cheese has issued debt with a market value of $100 millio

QUESTION

5. Executive Cheese has issued debt with a market value of $100 million and hasoutstanding 15 million shares with a market price of $10 a share. It now announcesthat it intends to issue a further $60 million of debt and to use the proceeds to buyback common stock. Debtholders, seeing the extra risk,¦
Liabilities Amount Assets Amount Debts $ 100 Assets $ 250 Equity $ 150 Total $ 250 Total $ 250 Balance sheet After the Announcement Liabilities Amount Assets Amount Debts $ 70 Assets $ 250 Equity (150*0.12) $ 180 Total $ 250 Total $ 250 b) How many shares can the company buy back with the $60 million of new debt that it issues? Solution: Computation of the following No of shares = $ 60 $ 12 No of shares = 5.00 Millions Hence the no of shares is 5.00 Millions c) What is the market value of the firm (equity plus debt) after the change in capital structure? Solution: Balance sheet After the Change in Capital Structure Liabilities Amount Assets Amount Debts¦

d $70 Assets $250 Debts New $60 Equity (10*12) $120 Total $250 Total $250 d) What is the (market) debt ratio after the change in structure? Solution: Computation of the Debt ratio Debt ratio = Debt Total assets Where as Debt $130 Total assets $250 Debt ratio = $130 $250 Debt ratio = 52% e) Who (if anyone) gains or loses? Solution: Stockholders gain $2 increases in stock price 20% old debt holders lose $30 millions value of their securities

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