Question

QUESTION 4 (25 MARKS)
Ingram Micro Berhad currently has an enterprise value of RM300,000,000 and RM75,000,000 in excess cash. Ingram Micro is a debt free firm with 7,500,000 shares outstanding. Suppose Ingram uses its excess cash to repurchase shares. After the share repurchase, news released and stated that repurchase will change Ingram’s enterprise value to either RM450,000,000 or RM150,000,000.

(a) Compute Ingram’s share price prior to the share repurchase.(2 marks)
(b) Compute
(i) Ingram’s share price after the repurchase if its enterprise value goes up.
(ii) Ingram’s share price after the repurchase if its enterprise value declines.(6 marks)

(c) Suppose Ingram waits until after the news released to public before Ingram exercise share repurchase, estimate

(i) Ingram’s share price after the repurchase if its enterprise value goes up.
(ii) Ingram’s share price after the repurchase if its enterprise value declines.(6 marks)

(d) Suppose Ingram management expects good news to be announced. Based on your answers to parts (b) and (c), if management desires to maximize Ingram’s ultimate share price. Decide whether they will undertake the repurchase before or after the news releases. Justify when would management undertake the repurchase if they expect bad news to about to release.(6 marks)

(e) Given your answer to part (d), explain the effect that you would expect an announcement of a share repurchase to have on the stock price.(5 marks)
[TOTAL MARKS: 25 MARKS]

Answer 1

a) Ingram Micro is a debt free firm. Hence debt = 0 Enterprise Value = Market Capitalization + Market Value of Debt-Excess Cash 300,000,000 = Market Capitalization +0 - 75,000,000 Hence, Market Capitalization = RM 375,000,000 Share Price = 375,000,000 / 7,500,000 = RM 50 b) Revised share price after repurchase i. Scenario: Enterprise Value goes up Enterprise Value after repurchase = RM 450,000,000 Since Ingram Micro is debt free and excess cash was used in share repurchase, Market Capitalization = RM 450,000,000 75,000,000 / 50 = 1,500,000 shares were repurchased. Hence post-repurchase shareholding = 7,500,000 - 1,500,000 = 6,000,000 Share Price = 450,000,000 / 6,000,000 = RM 75 ii. Scenario: Enterprise Value goes down Enterprise Value after repurchase = RM 150,000,000 Since Ingram Micro is debt free and excess cash was used in share repurchase, Market Capitalization = RM 150,000,000 75,000,000 / 50 = 1,500,000 shares were repurchased. Hence post-repurchase shareholding = 7,500,000 - 1,500,000 = 6,000,000 Share Price = 150,000,000 / 6,000,000 = RM 25 c) If the company waits until after the news to make the share repurchase, the value of equity will either be RM 525,000,000 or RM 225,000,000. This is because market capitalization will include the impact of cash reserves of RM 75,000,000 as well. Hence under optimistic scenario, share price will be 525,000,000 / 7,500,000 = RM 70. Under pessimistic scenario, share price will be 225,000,000 / 7,500,000 = RM 30. d) In the case of Good news, the company will make the share repurchase before the news arrive, trying to repurchase undervalued shares. In the case of Bad news, the company will wait until the news arrives and only afterwards will repurchase the shares as the price declines afterwards helping company to repurchase shares at lesser price. e) if management announces a share repurchase, investors should anticipate good news and the price will adjust to RM 75.

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