Question

In: Finance

Suppose Sigma Industries and Pi Technology have identical assets that generate identical cash flows. Sigma Industries...

Suppose Sigma Industries and Pi Technology have identical assets that generate identical cash flows. Sigma Industries is an​ all-equity firm, with 9 million shares outstanding that trade for a price of $18.00 per share. Pi Technology has 24 million shares​ outstanding, as well as debt of $48.60 million. a. According to MM Proposition​ I, what is the stock price for Pi ​Technology? b. Suppose Pi Technology stock currently trades for $12.68 per share. What arbitrage opportunity is​ available? What assumptions are necessary to exploit this​ opportunity?

Solutions

Expert Solution

Qa:

According to the MM proposition I ; total value of a company should be same irrespective of capital structure if both the company generates identical cashflows and have identical assets.

Value of Sigma industries= no of shares*share price= 9*18=162 million $

Value of Pi Technology=162 million (identical firm with identical cashflows)

Value of Pi technology=162 =value of equity+value of debt

162= 24*share price +48.6

share price of Pi Technology= 4.725 $

Qb:

Since estimated share price is lower than current trading price of 12.68$ per share; we can go short for this stock of Pi technology in an anticipation of the share price moving towards its estimated fare value; And by this getting an arbitrage profit

Qc:

The assumptions needed are

  • There is no tax benefit in the system
  • Companys capital structure doesnt affect firm value (MM 1 proposition exist)
  • Markets are perfectly efficient and complete

jeff jeffy answered 2 years ago
Next > < Previous

Related Solutions

Consider two firms, X and Y, that have identical assets and generate identical cash flows. X...
Consider two firms, X and Y, that have identical assets and generate identical cash flows. X is an all-equity firm, with 1 million shares outstanding that trade for a price of $24 per share. Y has 2 million shares outstanding and $12 million dollars in debt at an interest rate of 5%. According to MM proposition 1, share price of y is $6. a) If the annual earnings before interest and taxes for each firm are $5 million, what would...
Firm X and Firm Y have identical assets that generate identical cash flows. Firm X is...
Firm X and Firm Y have identical assets that generate identical cash flows. Firm X is an unlevered firm, with 2.5 million outstanding shares and the market price of $20 per share. Firm Y is a levered firm, with 2 million outstanding shares and $15 million debt. The interest rate on the debt is 7%. According to MM Proposition 1 without tax and bankruptcy costs, the stock price for Firm Y is closest to: $15.00 $16.25 $17.50 $19.75
Because heritage assets typically generate negative cash flows there is a perspective that they should be...
Because heritage assets typically generate negative cash flows there is a perspective that they should be treated as liabilities and not assets. Do you agree with this viewpoint? Justify.
Suppose you are considering a project that will generate quarterly cash flows of $16429 at the...
Suppose you are considering a project that will generate quarterly cash flows of $16429 at the beginning of each quarter for the next 12 years. If the appropriate discount rate for this project is 12%, how much is this project worth today? Round to the nearest cent.
Suppose you are considering a project that will generate quarterly cash flows of $17143 at the...
Suppose you are considering a project that will generate quarterly cash flows of $17143 at the beginning of each quarter for the next 11 years. If the appropriate discount rate for this project is 13%, how much is this project worth today? Round to the nearest cent.
QUESTION 24 Consider two firms, Firm A and Firm B that have identical assets that generate...
QUESTION 24 Consider two firms, Firm A and Firm B that have identical assets that generate identical cash flows. Firm A has $10 million in debt and has 3 million shares outstanding. Firm A’s stock is traded at $10 per share. Firm B is all-equity firm with 5 million shares outstanding. Under the M&M world with perfect capital markets, what would be the stock price for Firm B? A. $8 B. $6 C. $10 D. $5 QUESTION 25 Under the...
Plane Industries is expected to generate the free cash flows over the next four years (listed...
Plane Industries is expected to generate the free cash flows over the next four years (listed below), after which they are expected to grow at a rate of 5% per year. Cash flows are in millions of dollars. If the weighted average cost of capital is 12% and Plane Industries has cash of $65 million, debt of $45 million, and 30 million shares outstanding, what is Plane company's expected current share price? Cash Flow by year year 1: $14 year...
We have property that is projected to generate cash flows of $100,000 over this first year...
We have property that is projected to generate cash flows of $100,000 over this first year of operations. Our projected growth rate in those flows is constant at 5% over the 5 year holding period. What is the NPV of those cash flows discounted at 12%? Initial outlay is $300,000. Net present value of investment
An ordinary annuity is characterised by: a. a series of cash flows that are identical in...
An ordinary annuity is characterised by: a. a series of cash flows that are identical in amount and occur at the end of consecutive time periods over a finite period of time. b. a series of cash flows that are identical in amount and occur at the start of consecutive time periods over a finite period of time. c. None of the answers are correct. d. a series of cash flows that are identical in amount and occur at the...
An ordinary annuity is characterised by: a. a series of cash flows that are identical in...
An ordinary annuity is characterised by: a. a series of cash flows that are identical in amount and occur at the end of consecutive time periods over an infinite period of time. b. None of the answers are correct. c. a series of cash flows that grow at a constant rate and occur at the end of consecutive time periods over an infinite period of time. d. a series of cash flows that are identical in amount and occur at...
ADVERTISEMENT
Subjects
ADVERTISEMENT
Latest Questions
ADVERTISEMENT