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Henry Corporation increased its financial leverage during 2010 by taking out a loan and using the...

Henry Corporation increased its financial leverage during 2010 by taking out a loan and using the proceeds to buy back common stock. At the end of 2010, the corporation reported higher earnings per share and higher return on equity. However, its stock price declined. Discuss why this may happen.

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Normally buyback of share increases the price of stock. The reason behind this is that by buying back shares, no. of outstanding shares decreases and hence boast EPS. However henry corporation has taken loan for purchase of shares, it means that debt on balance sheet has increased and owner's capital has decreased and thus risk of bankrupcy increases. Because of bankrupcy risk cost of equity share increases resulting in decrease in market price of share.

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