Question

Left Turn, Inc., has 108,000 shares of stock outstanding. Each share is worth $90, so the company's market value of equity is $9,720,000. Required: (a) Suppose the firm issues 18,000 new shares at the price of $90, what will the effect be of this offering price on the existing price per share? (Do not round your intermediate calculations.) (b) Suppose the firm issues 18,000 new shares at the price of $80, what will the effect be of this offering price on the existing price per share? (Do not round your intermediate calculations.) (c) Suppose the firm issues 18,000 new shares at the price of $66, what will the effect be of this offering price on the existing price per share? (Do not round your intermediate calculations.)

Answer 1

Current no of shares outstanding = 108000

Current share price = 90

Current market value =  Current no of shares outstanding *  Current share price

= 108000*90

= 9720000

a. Suppose the firm issues 18,000 new shares at the price of $90,

Amount raised on new issue = 18000*90

= 1620000

New marke value = 9720000 +  1620000

= 11340000

New shares outstanding = 108000+18000

= 126000

New price per share = new market value / new shares outstanding

= 11340000/126000

= 90

b. Suppose the firm issues 18,000 new shares at the price of $80

Amount raised on new issue = 18000*80

= 1440000

New marke value = 9720000 +  1440000

= 11160000

New shares outstanding = 108000+18000

= 126000

New price per share = new market value / new shares outstanding

= 11160000/126000

= 88.57

c. Suppose the firm issues 18,000 new shares at the price of  $66

Amount raised on new issue = 18000*66

= 1188000

New marke value = 9720000 +  1188000

= 10908000

New shares outstanding = 108000+18000

= 126000

New price per share = new market value / new shares outstanding

= 10908000/126000

= 86.57

Analysis

Raising capital by issuing new shares will result in the dilution of holding of exsisting shareholders. It result in drop in share price.