Salish Industries is anall-equity firm whose stock has a beta of 1.20 and an expected return of 18.00%. Suppose it issues newrisk-free debt with a 5.00% yield and repurchase 15% of their stock. Assume perfect capital markets.

a. What is the beta of Salish stock after thistransaction?

b. What is the expected return of Salish stock after thistransaction?

Suppose that prior to thistransaction, Salish expected earnings per share this coming year of $5.00, with a forwardP/E ratio(that is, the share price divided by the expected earnings for the comingyear) of 10.

c. What isSalish's expected earnings per share after thistransaction? Does this change benefit theshareholder? Explain.

d. What isSalish's forwardP/E ratio after thistransaction? Is this change in theP/E ratioreasonable? Explain.

Is this change in theP/E ratioreasonable? Explain.(Select the best choicebelow.)

A. It is reasonable.P/E has gone down because risk has gone down.

B. You cannot tell. It depends on shareholders risk preferences.P/E has gonedown, but risk has alsochanged, some shareholders will be betteroff, some will be worse off.

C. It is reasonable.P/E has gone down because risk has gone up.

D. It is not reasonable and reflects the value loss of the recapitalization.