Question

The Metallica Heavy Metal Mining (MHMM) Corporation wants to diversify its operations. Some recent financial information for the company is shown here:

Stock price	$	69
Number of shares		30,000
Total assets	$	8,700,000
Total liabilities	$	3,600,000
Net income	$	600,000

MHMM is considering an investment that has the same PE ratio as the firm. The cost of the investment is $640,000, and it will be financed with a new equity issue. The return on the investment will equal MHMM’s current ROE.

a.	What is the current book value per share? The new book value per share? (Do not round intermediate calculations and round your answers to 2 decimal places, e.g., 32.16.)
b.	What is the current EPS? The new EPS? (Do not round intermediate calculations and round your answers to 2 decimal places, e.g., 32.16.)
c.	What is the current market-to-book ratio? The new market-to-book ratio? (Do not round intermediate calculations and round your answers to 4 decimal places, e.g., .1616.)
d.	What is the NPV of this investment? (A negative answer should be indicated by a minus sign. Do not round intermediate calculations and round your answer to the nearest whole dollar amount, e.g., 32.)

Does accounting dilution occur here?

Yes No

Does market value dilution occur here?

Yes No

Answer 1

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Answer:

1) Current Return on Equity (ROE) :

2) New net Income

3) Compute the current EPS = $600,000/$30,000 = $20

4) Number of shares to be issued to finance new investment = $640,000/$69 9,276 shares

5) EPS after issue of new equity shares = $675,024/(30000+9276) = $17.19 per share

6) Current Price to Earning Ratio = P/E₀ = $69/$20 = 3.45

7) Price of share after issue of new issue, P₁ = 3.45 * 17.19 = $59.31

8) Current Book Value per Share = Total Equity/ Total Shares = (8,700,000-3,600,000)/30,000 = $170

9) Book Value per Share after issue of New Equity = Total Equity/ Total Shares = (8,700,000-3,600,000+675,024)/(30,000+9276) = $175.13

Market Price fell after Investment. Hence, Market Dilution took Place.

Book Value of Share increased after investment. Hence, Accounting Dilution didn't take place.