Mercer Corp. has 10 million shares outstanding and $100 million worth of debt outstanding. Its current share price is $75. Mercer’s equity cost of capital is 8.5%. Mercer has just announced that it will issue $350 million worth of debt. It will use the proceeds from this debt to pay off its existing debt, and use the remaining $250 million to pay an immediate dividend. Assume perfect capital markets.
a. Estimate Mercer’s share price just after the recapitalization is announced, but before the transaction occurs.
b. Estimate Mercer’s share price at the conclusion of the transaction. (Hint : Use the market value balance sheet.)
c. Suppose Mercer's existing debt was risk-free with a 4.25% expected return, and its new debt is risky with a 5% expected return. Estimate Mercer's equity cost of capital after the transaction.
Want to see the full answer?
Check out a sample textbook solutionChapter 14 Solutions
Corporate Finance
- Essentials Of InvestmentsFinanceISBN:9781260013924Author:Bodie, Zvi, Kane, Alex, MARCUS, Alan J.Publisher:Mcgraw-hill Education,
- Foundations Of FinanceFinanceISBN:9780134897264Author:KEOWN, Arthur J., Martin, John D., PETTY, J. WilliamPublisher:Pearson,Fundamentals of Financial Management (MindTap Cou...FinanceISBN:9781337395250Author:Eugene F. Brigham, Joel F. HoustonPublisher:Cengage LearningCorporate Finance (The Mcgraw-hill/Irwin Series i...FinanceISBN:9780077861759Author:Stephen A. Ross Franco Modigliani Professor of Financial Economics Professor, Randolph W Westerfield Robert R. Dockson Deans Chair in Bus. Admin., Jeffrey Jaffe, Bradford D Jordan ProfessorPublisher:McGraw-Hill Education