From Financial Management: Theory and Practice, 14th Edition, Brigham and Ehrhardt

Problem (24-2) Reorganization

The Verbrugge Publishing Companys 2012 balance sheet and income statement are as follows.

Balance Sheet

Current Assets	$168,000,000	Current Liabilities	$42,000,000
Net Fixed Assets	153,000,000	Advance Payments	78,000,000
Goodwill	15,000,000	Reserves	6,000,000
		$6 preferred stock, $112.50 par value (1,200,000 shares)	135,000,000
		$10.50 preferred stock, no par, callable at $150 (60,000 shares)	9,000,000
		Common stock, $1.50 par value (6,000,000 shares)	9,000,000
		Retained Earnings	57,000,000
Total Assets	$336,000,000	Total Claims	$336,000,000

Income Statement

Net sales $540.0

Operating expense $516.0

Net operating income $24.0

Other income $3.0

EBT $27.0

Taxes (50%) $13.5

Net income $13.5

Dividends on $6 preferred 7.2

Dividends on $10.50 preferred 0.6

Income available to common stockholders $5.7

Verbrugge and its creditors have agreed upon a voluntary reorganization plan. In this plan, each share of the $6 preferred will be exchanged for one share of $2.40 preferred with a par value of $37.50 plus one 8% subordinated income debenture with a par value of $75. The $10.50 preferred issue will be retired with cash.

a. Construct the projected balance sheet while assuming that reorganization takes place. Show the new preferred stock at its par value.

b. Construct the projected income statement. What is the income available to common shareholders in the proposed recapitalization?

c. Required earnings is defined as the amount that is just enough to meet fixed charges (debenture interest and/or preferred dividends). What are the required pre-tax earnings before and after the recapitalization?

d. How is the debt ratio affected by the reorganization? If you were a holder of Verbrugges common stock, would you vote in favor of the reorganization? Why or why not?

The following answers are given near the back of the textbook. Please show tables, solutions, calculations and incite on how these answers are reached.

a. Total assets: $327M

b. Income: $7M

c. Before: $15.6

After: $13M

d. Before: 35.7%

After: 64.2%