Question

The Presley Corporation is about to go public. It currently has aftertax earnings of $5,500,000, and 2,700,000 shares are owned by the present stockholders (the Presley family). The new public issue will represent 400,000 new shares. The new shares will be priced to the public at $30 per share, with a 6 percent spread on the offering price. There will also be $150,000 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. Net proceeds = {[Public price × (1 – Spread)] ×Number of new shares} – Costs

                                    = {[$30 × (1 – .06)] × 400,000} – $150,000

                                    = $11,130,000

b. EPS Pre-issue         = Aftertax earnings / Number of shares

                                    = $5,500,000 / 2,700,000

= 2.037037037

  = $2.04

c. EPS Post-issue        = Aftertax earnings / New number of shares

                                    = $5,500,000 / (2,700,000 + 400,000)

                                    = $1.77

d. Required aftertax earnings           = EPS Pre-issue×New number of shares

= $2.04 ×3,100,000

= $6,314,814.81

Required rate of return = (Required aftertax earnings – Current aftertax earnings) / Net proceeds

= $6,314,814.81 – $5,500,000) / $11,130,000

= 0.0732, or 7.32%

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

= ($2.04 ×1.05) × 3,100,000

= $6,630,555.56

Required rate of return = (Required aftertax earnings – Current aftertax earnings) / Net proceeds

= ($6,640,200 – $5,500,000) / $11,130,000

= .1016 or 10.16%

Note : The value for EPS Pre Issue has been taken as 2.037037037 instead of 2.04 for calculations in part (d) & (e) as it is mentioned in question not to round off intermediate answer