Question

The Presley Corporation is about to go public. It currently has aftertax earnings of $7,900,000, and 2,800,000 shares are owned by the present stockholders (the Presley family). The new public issue will represent 600,000 new shares. The new shares will be priced to the public at $20 per share, with a 4 percent spread on the offering price. There will also be $210,000 in out-of-pocket costs to the corporation.

a. Compute the net proceeds to the Presley Corporation. (Do not round intermediate calculations and round your answer to the nearest whole dollar.)
  

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

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

d. 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.)
  

e. Determine what rate of return must be earned on the proceeds to the corporation so there will be a 5 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

a. Answer = $11,310,000

Computation of Net Proceeds -

Share price = $20

Spread = 4% of share price = 4% x $20 = $0.80

Share price after spread = $20 - $0.80 = $19.2

No. of new shares issued = 600,000 shares

Net proceeds = (No. of new shares issued x Net issue price) - Costs

= (600,000 x $19.2) - $210,000

= 11,520,000 - 210,000

Net proceeds = $11,310,000

b. Answer = $2.82

Computation of EPS before New Issue -

Earnings before tax = $7,900,000

No. of shares outstanding = 2,800,000 shares

c. Answer = $2.32

Computation of EPS after New Issue -

Earnings before tax = $7,900,000

No. of shares outstanding = 2,800,000 shares + 600,000 shares = 3,400,000 shares

d. Answer = 14.92%

Computation of rate of return on net proceeds to avoid dilution of EPS -

Required earnings after tax = No. of shares outstanding x EPS before new issue

Required earnings after tax = 3,400,000 shares x $2.82

Required earnings after tax = $9,588,000

Existing earnings after tax = $7,900,000

Additional earnings required = Required earnings after tax - Existing earnings after tax

Additional earnings required = $9,588,000 - $7,900,000

Additional earnings required = $1,688,000

Rate of return = 14.92%

e. Answer = 19.16%

Computation of rate of return on net proceeds to increase EPS by 5% -

Required EPS = Existing EPS + 5% increase

Required EPS = $2.82 + (5% x $2.82)

Required EPS = $2.961

Required earnings after tax = 3,400,000 shares x $2.961 = $10,067,400

Existing earnings after tax = $7,900,000

Additional earnings required = Required earnings after tax - Existing earnings after tax

Additional earnings required = $10,067,400 - $7,900,000

Additional earnings required = $2,167,400

Rate of return = 19.16%