Question

KMS Corporation has assets with a market value of ​$571 ​million, ​$47 million of which are cash. It has debt of ​$183 ​million, and 11 million shares outstanding. Assume perfect capital markets.

a. What is its current stock​ price?

b. If KMS distributes ​$47 million as a​ dividend, what will its share price be after the dividend is​ paid?

c. If​ instead, KMS distributes ​$47 million as a share​ repurchase, what will its share price be once the shares are​ repurchased?

d. What will its new market​ debt-equity ratio be after either​ transaction?

Answer 1

Part a:

Market value of assets-Liabilities=Equity
Share price=(Market value of assets-Liabilities)/Number of shares outstanding
Given that, market value of assets=$571 million
Liabilities is given by the debt amount of $183 million
Number of shares outstanding= 11 million
From the given information, current share price of the company is calculated as:
So, current share price=($571-$183)/11=$388/11=$35.27

Part b:
Given that, market value of assets=$571 million
Liabilities is given by the debt amount of $183 million
Given that KMS has distributed dividend amount of ​$47 million.
Number of shares outstanding= 11 million
The share price value after the dividend is paid is calculated as:
Market value of assets - Reduction in assets-Liabilities=Equity
Share price=(Market value of assets-Reduction in assets due to dividend distribution-Liabilities)/Number of shares outstanding
=($571-$47-$183)/11=$341/11=$31

Part c:
Now, KMS distributes ​$47 million as a share​ repurchase.
Given that, market value of assets=$571 million
Liabilities is given by the debt amount of $183 million
Number of shares outstanding= 11 million
Market value of assets - Reduction in assets-Liabilities=Equity
Share price=(Market value of assets-Reduction in assets due to share repurchase-Liabilities)/Number of shares outstanding
Number of shares repurchased=Amount distributed for share repurchase/Share price=​$47million/$35.27=1.3326 million
Note: We got the amount $35.27 from answer to the question a.
Now, number of shares outstanding=(Total share outstanding before share repurchase-number of shares repurchased)=(11-1.3326)=9.6674 million

Share price=($571-$47-$183)/9.6674=$341/9.6674=$35.273

Part d:
Market value of assets-Reduction in assets-Liabilities=Equity
After either reduction, ​the reduction in assets will be equal to $47 million
Given that, market value of assets=$571 million
Liabilities is given by the debt amount of $183 million
Market value of assets-Reduction in assets due to share repurchase-Liabilities=Equity=$571-$47-$183=$341
So, equity is $341 million and debt is $183 million.
Therefore, debt to equity ratio =$183/$341=0.53666