Obsession Inc. is a publicly traded company with two business lines: perfumes and apparel. The beta of this company is 1.72. Obsession Inc. is contemplating a major restructuring in which it wants to sell off its apparel division, which has an unlevered beta of 0.71, for 20 million. It also wants to borrow an additional 25 million and buy back stock worth 45 million. After the sale of the division and the share repurchase, Obsession Inc. will have 46 million in debt and 143 million in equity outstanding. Assume a tax rate of 40.00% percent. The unlevered beta of the perfume division is
|
1.61 |
||
|
0.71 |
||
|
1.71 |
||
|
0.32 |
||
|
0.95 |
Given
Beta =1.72
Restructuring i.e., selling of apparel division
Sold off value = 20 million
Unlevered Beta= 0.71,
Borrowed i.e., debt = 25 million
Stock buy back = 45 million
After restructuring
Debt = 46 million
Equity = 143 million
Tax rate t= 40%
Now , first let us find out debt and equity values before restructure
Debt before restructuring = After restructure – Borrowed amount
= 46 million – 25 million = 21 million
(note: After restructure= Before debt + Borrowed amount)
Equity before restructuring = After restructure + Stock buy back
= 143 million + 45 million = 188 million
Total debt and equity before restructure = 21 million + 188 million = 209 million
Debt/Equity Ratio before restructuring = 21 million /188 million = 11.17%
Unlevered Beta before restructuring =
Beta/ [1+ {(1-t)(D/E ratio)}]
= 1.72 / (1+(1-.4)(.1117)) = 1.61
Total debt and equity after restructure =46 million + 143 million = 189 million
Let Unlevered Beta after the divisional sale be X
Unlevered beta for sold off * (sold off value/ total debt and equity value before restructure) + X * (total debt and equity value after restructure / total debt and equity value before restructure)
0.71 *(20 million /209 million) + X (189 million /209 million) = 1.61
Solving for X,
X= [1.61 – {0.71 *(20 million /209 million) }]/ (189 million /209 million)
Unlevered Beta after divisional sale = 1.705 =1.71
Therefore the Unlevered Beta of the perfume division is 1.71
Obsession Inc. is a publicly traded company with two business lines: perfumes and apparel. The beta...
Obsession Inc. is a publicly traded company with two business lines: perfumes and apparel. The beta of this company is 1.72. Obsession Inc. is contemplating a major restructuring in which it wants to sell off its apparel division, which has an unlevered beta of 0.71, for 20 million. It also wants to borrow an additional 25 million and buy back stock worth 45 million. After the sale of the division and the share repurchase, Obsession Inc. will have 46 million...
Ridley Inc. is a small, publicly traded construction company with 50 million shares outstanding trading at $10 a share. Ridley has: Unlevered beta of 1.1 One bank loan with interest payments of $5 million a year for 5 years and a principal payment (FV) of $250 million Rating of Baa, for which the default spread is 2% Marginal tax rate of 40% The risk-free rate is 2.5%, and the equity risk premium is 5.5%. What is the current cost of...
Suppose you have been hired as a financial consultant to Defense Electronics, Inc. (DEI), a large, publicly traded firm that is the market share leader in radar detection systems (RDSs). The company is looking at setting up a manufacturing plant overseas to produce a new line of RDSs. This will be a five-year project. The company bought some land three years ago for $7.3 million in anticipation of using it as a toxic dump site for waste chemicals, but it...
Suppose you have been hired as a financial consultant to Defense Electronics, Inc. (DEI), a large, publicly traded firm that is the market share leader in radar detection systems (RDSs). The company is looking at setting up a manufacturing plant overseas to produce a new line of RDSs. This will be a five-year project. The company bought some land three years ago for $2.9 million in anticipation of using it as a toxic dump site for waste chemicals, but it...