Question

KD Industries has 30 million shares outstanding with a market price of $20 per share and no debt. KD has had consistently stable earnings, and pays a 21% tax rate. Management plans to borrow $200 million on a permanent basis through a leveraged recapitalization in which they would use the borrowed funds to repurchase outstanding shares. If KD expects the share price to increase from $20 per share to a new share price on announcement of the transaction and before the shares are repurchased, what will the new share price be after the announcement? Ans.: ______ $/share.

• A. 22.65

• B. 21.40

• C. 22.0

• D. 23.50

Use data from Q21 above, how many shares will KD repurchase in the recapitalization if the share price increases upon announcement and before the recapitalization?

• A. 9.35

• B. 3.65

• C. 12.54

• D. 8.96

Answer 1

Correct answers:

1. B. 21.40

2. A. 9.35

1.

Before announcement:

Outstanding shares = 30 million

Share price per share = $20

Value of unlevered KD Industries (VU) = 30*20 = 600 million

After announcement:

Debt to issue(D) = 200 million

Tax rate(t) = 21%

Value of levered KD Industried = VL

$V_L = \textup{642 million}$

Thus, Share Price after announcement:

$= \frac{642}{30}$

$\large = 21.40$

2.

No. of Share repurchase:

$= \frac{\textup{Debt issue}}{\textup{Share price post announcement}}$

$= \frac{200}{21.40}$

$\large = 9.35$

Hope it will help, please do comment if you need any further explanation. Your feedback would be highly appreciated.