Manonta Sales Company’s summary balance sheet and income statement as at December 31, 2010, follow:
Statement of Financial Position (in thousands)
Current assets………………………………………..$150,000
Net property, plant, and equipment…………………. 75,000
Total assets……………………………………………$225,000
Current liabilities……………………………………… $95,000
Long-term debt………………………………………... 90,000
Shareholders’ equity…………………………………… 40,000
Total liabilities and shareholders’ equity………………$225,000
Statement of Earnings (in thousands)
Sales…………………………………………………….$460,000
Cost of goods sold, operating, and other expenses…….. 420,000
Earnings before income taxes…………………………... 40,000
Income taxes……………………………………………. 14,000
Net earnings…………………………………………….. $ 26,000
Earnings per share……………………………………….. $1.30
The long-term debt has an interest rate of 6% and is convertible into 9.0 million common shares. After carefully analyzing all available information about Manonta, you decide the following events are likely to happen. First, Manonta will increase its earnings before income taxes by 10% next year because of increased sales. Second, the effective tax rate will stay the same. Third, the holders of long-term debt will convert it into shares on January 1, 2011. Fourth, the current multiple of earnings per share to market price of 20 will increase to 24 if the debt is converted, because of the reduced risk.
You own 100 common shares of Manonta and are trying to decide whether you should keep or sell them. You decide you will sell the shares if you think their market price is not likely to increase by at least 10% next year.
Required:
Based on the information available, should you keep the shares or sell them? Support your answer with a detailed analysis.