BF3326 – Corporate Finance

Tutorial Questions
Raising Capital

Answer ALL Questions

1. Zero Corp's total common equity at the end of last year was $405,000 and its net income was $70,000.
What was its ROE?

ROE NYEgutty

70,0004051000

17 28

Equity
2. Your sister is thinking about starting a new business. The company would require $375,000 of assets,
and it would be financed entirely with common stock. She will go forward only if she thinks the firm
can provide a 13.5% return on the invested capital, which means that the firm must have a ROE of
13.5%. How much net income must be expected to warrant starting the business?
no Ef r
ROE NIIEquity
mi Rot X Equis
e 13 5 x 375,000

1 50 625

3. Song Corp's stock price at the end of last year was $23.50 and its earnings per share for the year were
$1.30. What was its P/E ratio?

PE Shovepricelearn'yPershaves
23.50 1 so
I 8 08

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BF3326 – Corporate Finance
Tutorial Questions
Raising Capital

4. Hoagland Corp's stock price at the end of last year was $33.50, and its book value per share was $25.00.
What was its market/book ratio?

Mabet back ratio Shoremice Beauvalue per shave

33.50125
I 34

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5. Chang Corp. has $375,000 of assets, and it uses only common equity capital (zero debt). Its sales for
the last year were $595,000, and its net income was $25,000. Stockholders recently voted in a new
management team that has promised to lower costs and get the return on equity up to 15.0%. What

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profit margin would the firm need in order to achieve the 15% ROE, holding everything else constant?

Equity Assets Debt

Profit Margin NY sales
375,0W o 375,000
ooo

ii
NC Iff x 375,000 56,250

6. Last year Ann Arbor Corp had $155,000I of assets, $305,000 of sales, $20,000 of net income, and a
debt-to-total-assets ratio of 37.5%. The new CFO believes a new computer program will enable it to
reduce costs and thus raise net income to $33,000. Assets, sales, and the debt ratio would not be

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affected. By how much would the cost reduction improve the ROE?

Equity Asset Debt Debt assets DebtRahi

Equity 155,000 58,125 155coax 37.7
96,875 58,125
ROE MYegiery
oldRoe 2010001g New ROE 330
g 6,825
20.65 34.06 2|Page

Improvement f ROE New ROE Old ROE

34.106
 I 13.41
BF3326 – Corporate Finance
Tutorial Questions
Raising Capital

7. The Good Corporation is considering an equity issue to finance a new space station. A total of $15
million in new equity is needed. If the direct costs are estimated at 7 percent of the amount raised,
how large does the issue need to be? What is the dollar amount of the flotation cost?

forget
million
Amount needed D million t cast cdi.ec T
7Ccsmillion I F
o
i i
gµ
Colonial raised
target capital 16,129m 15M
µq a

l 129M
L
8. The Hadron Corporation currently has 3 million shares outstanding. The stock sells for $40 per share.
To raise $20 million for a new particle accelerator, the fi rm is considering a rights offering at $25 per
share. What is the value of a right in this case? The ex-rights price?

20 millionat25 pershore New shorest oldshores

no
ofshores
omfg e no ofshoes issue 3Mt soooooo
1 3 8 million

yaLuefe.mpue oustedshares
YmIII.fi uoI om
make'toahelpe.hu
market valueCsun Home3 g
3millionX to
36 su cexn.sn
120 million pre
n'suits originalpro
9.
Cbefore issuance nyu
Rebel, Inc., is proposing a rights offering. Presently there are 400,000 shares outstanding at $75 each.
There will be 70,000 new shares offered at $70 each.
4o 36.8
3 16
a. What is the new market value of the company?

NewOulu 702000Cao taloococo car

34,900,000
b. How many rights are associated with one of the new shares?

outstoo shacs 4001000 5 7 shares

NewshavesIssued 7ococo

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BF3326 – Corporate Finance
Tutorial Questions
Raising Capital

c. What is the ex-rights price?

34,90010004
74.26
420oooo
d. What is the value of a right?

oldvaluelshae ex rightsvale
25 4.26
40.74
e. Why might a company have a rights offering rather than a general cash offer?
1 protect shareholders isuts control
2 avoid underpricing of the shores
3 Protect your shareholders wealth

10. The Clifford Corporation has announced a rights offer to raise $50 million for a new journal, the
Journal of Financial Excess. This journal will review potential articles after the author pays a
nonrefundable reviewing fee of $5,000 per page. The stock currently sells for $60 per share, and there
are 5.2 million shares outstanding.

a. What is the maximum possible subscription price? What is the minimum?

maximum mice 60
minimum nice o.o carryamount more than O

b. If the subscription price is set at $55 per share, how many shares must be sold? How many rights
will it take to buy one share?

Target capital 50 ooo ooo

pn.aeshaeeH5s

5ococoouu0l55 909,091 shares

rights outstaligshares 5 soooooo
new share I 72 shoves
909,091 4|Page
BF3326 – Corporate Finance
Tutorial Questions
Raising Capital

c. What is the ex-rights price? What is the value of a right?

Malet Kala Tomillion t t 2c o Right malt value ex rightsvalue

5.2m t 9ogoa Go 59 as
sszooq o
6109091
I
59.26 ex rightsprice
d. Show how a shareholder with 1,000 shares before the offering and no desire (or money) to buy
additional shares is not harmed by the rights offer.

Initial value e loco x o 60,000

New valueefor Issuance 1000 5459.26 9,260
Proceeds fromsellinghats low K0.24 740

11. CBO, Inc., has 100,000 shares of stock outstanding. Each share is worth $80, so the company’s market
value of equity is $8,000,000. Suppose the firm issues 20,000 new shares at the following prices: $80,

per share?
ddpice
O_0
$75, and $70. What will the effect be of each of these alternative offering prices on the existing price

Hermie 6k
too ooo 2ocoeo
80 80
100 coat 201000
9

70 78 33g
a

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BF3326 – Corporate Finance
Tutorial Questions
Raising Capital

12. Teardrop Inc., wishes to expand its facilities. The company currently has 10 million shares outstanding
and no debt. The stock sells for $50 per share, but the book value per share is $20. Net income for
Teardrop is currently $18 million. The new facility will cost $40 million, and it will increase net income
by $500,000.

a. Assuming a constant price–earnings ratio, what will the effect be of issuing new equity to finance
the investment? To answer, calculate the new book value per share, the new total earnings, the
new EPS, the new stock price, and the new market-to-book ratio. What is going on here?

New outstanding shares

Epsebefaela Sho a l so
lo m t e coco ooooI
a ShoeMeps 5
toosoooooo sina.es r 7.780
80 2
Newboounauecsho.ee NewEps 28ooo.ocoasooooo I

i i
Me Newshore 271
Effect Bau priceincreases Manet reduces
NEWEPS 47 TO
b. m.ee
What would the new net income for Teardrop have to be for the stock price to remain unchanged?

old 50
Mahut toback 20 2.5
Eps hows
Ne 475022.22 2.14

Reduces

Price new
I
Ecuniys shore
New
Eps NIname
Thous
1.8 NI
27.28 50 10 gm
NEW EPs Newtoncoke
19,440,000
New Eps HI 8

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