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You own 1,000 shares of a company, M&N Limited which is all-equity financed with 10,000 outstanding. The market price for each share is currently $40.
You own 1,000 shares of a company, M\&N Limited which is all-equity financed with 10,000 outstanding. The market price for each share is currently $40. M\& N Limited follows a constant dividend policy, implying that it will pay the same dividend per share each year indefinitely. 3 The dividend per share is $4.50 per year. The company is debating of converting into a 60% debt capital structure by using the proceeds from debt to repurchase shares and the expected dividend per share is $5.85. The interest rate on borrowings in general is 9% per annum. Ignore taxes. You are required to answer the following questions: (a) What is the value of your personal cash flow in M\&N Limited based on the current capital structure and dividend policy of the company? (2 marks) (b) What is the value of your personal cash flow in M\&N Limited, based on the proposed 60\% debt capital structure and dividend policy of the company? (2 marks) (c) How can you use homemade leverage to obtain the higher cash flow from the proposed 60% debt capital structure, if M\&N Limited continues to be an unlevered firm, that is, maintain its current capital structure? Substantiate your answer through relevant computations. (6 marks) You own 1,000 shares of a company, M\&N Limited which is all-equity financed with 10,000 outstanding. The market price for each share is currently $40. M\& N Limited follows a constant dividend policy, implying that it will pay the same dividend per share each year indefinitely. 3 The dividend per share is $4.50 per year. The company is debating of converting into a 60% debt capital structure by using the proceeds from debt to repurchase shares and the expected dividend per share is $5.85. The interest rate on borrowings in general is 9% per annum. Ignore taxes. You are required to answer the following questions: (a) What is the value of your personal cash flow in M\&N Limited based on the current capital structure and dividend policy of the company? (2 marks) (b) What is the value of your personal cash flow in M\&N Limited, based on the proposed 60\% debt capital structure and dividend policy of the company? (2 marks) (c) How can you use homemade leverage to obtain the higher cash flow from the proposed 60% debt capital structure, if M\&N Limited continues to be an unlevered firm, that is, maintain its current capital structure? Substantiate your answer through relevant computations. (6 marks)
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