Question

Tyson Iron Works is about to go public. It currently has aftertax earnings of $5,300,000, and 3,700,000 shares are owned by the present stockholders. The new public issue will represent 700,000 new shares. The new shares will be priced to the public at $20 per share with a 5 percent spread on the offering price. There will also be $190,000 in out-of-pocket costs to the corporation

Compute the earnings per share immediately after the stock issue. (Do not round intermediate calculations and round your answer to 2 decimal places.)

Determine what rate of return must be earned on the net proceeds to the corporation so there will not be a dilution in earnings per share during the year of going public. (Do not round intermediate calculations. Enter your answer as a percent rounded to 2 decimal places.)

Determine what rate of return must be earned on the proceeds to the corporation so there will be a 15 percent increase in earnings per share during the year of going public. (Do not round intermediate calculations. Enter your answer as a percent rounded to 2 decimal places.)

Answer 1

1). EPS (Post-issue) = After-tax Earnings / New Number of Shares

= $5,300,000 / [3,700,000 + 700,000] = $5,300,000 / 4,400,000 = $1.20

2). Net Proceeds = [{Public Price x (1 - Spread)} x Number of new shares] - Costs

= [{$20 x (1 - 0.05)} x 700,000] - $190,000

= $13,300,000 - $190,000 = $13,110,000

EPS (Pre-issue) = After-tax Earnings / Old Number of Shares

= $5,300,000 / 3,700,000 = $1.43

Required After-tax Earnings = EPS (Pre-issue) x New number of shares

= $1.43 x 4,400,000 = $6,302,702.70

Required rate of return = (Required after-tax earnings - Current after-tax earnings) / Net proceeds

= ($6,302,702.70 - $5,300,000) / $13,110,000 = $1,002,702.70 / $13,110,000 = 0.0765, or 7.65%

3). Earnings needed = [EPS (Pre-issue) x (1 + Rate of increase)] x New number of shares

= ($1.43 ×1.15) x 4,400,000 = $7,248,108.11

Required rate of return= (Required after-tax earnings - Current after-tax earnings) / Net proceeds

= ($7,248,108.11 - $5,300,000) / $13,110,000 = $1,948,108.11 / $13,110,000 = 0.1486, or 14.86%