Question

In: Accounting

Safaris Inc. is weighing the option of an extra dividend versus a share repurchase and the...

Safaris Inc. is weighing the option of an extra dividend versus a share repurchase and the impact that each decision would have on the firm.

Safaris Inc. intends to send $70 000 with reference to both cases. Their current earnings are $3.20 per share. The current selling price of their stock is $30 per share.

Safaris Inc. currently has 4,500 shares outstanding.

Suppose you own one share of stock in this company.

a) If Safaris Inc. issues the dividend, what will your total investment be worth?

b) If Safaris Inc. pursues a share repurchase what will be your total investment be worth?

Ignore taxes and other imperfections.

Please show all working and formulas used. Explain any necessary steps.

Expert Solution

Current earnings = $3.2

Current selling price = $ 30

Price earning ratio (PE) = Market price/Earnings per share= 30/3.2 = 9.375

The safaris Inc have option to pursue either extra dividend or share repurchase

Amount available is $ 70,000

Case 1: If safaris Inc wants to issue dividend

Extra dividend per share = 70,000/4,500 = 15.55

Market price = PE ratio * Earnings

= 9.375* 15.55 = 145.78

This price is cumulative of Dividend. Once dividennd is paid, the share price would get affected by such amount.

Total value of one share = dividend + share price

= 15.55+ (145.78-15.55)

= 145.78

Case 2 If safaris Inc wants to repurchase share

The market selling price of share would be same as above = 145.78

The total investment of one share = 145.78

In the first case, shareholder receives dividend in cash & share price will be selling at reduced price.

In both cases the share investment value will be same.

ekkarill92 answered 2 years ago

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