Question

Rudolph Corporation is evaluating an extra dividend versus a share repurchase. In either case, $16,000 would be spent. Current earnings are $2.00 per share, and the stock currently sells for $50 per share. There are 2,500 shares outstanding. Ignore taxes and other imperfections.

a. Evaluate the two alternatives in terms of the effect on the price per share of the stock and shareholder wealth per share. (Round your answers to 2 decimal places. (e.g., 32.16))

Alternative I    Extra dividend

Price per share $

Shareholder wealth $

Alternative II    Repurchase

Price per share $

Shareholder wealth $

b. What will Rudolph's EPS and PE ratio be under the two different scenarios? (Do not round intermediate calculations and round your final answers to 2 decimal places. (e.g., 32.16))

Alternative 1

EPS $

PE ratio

Alternative II

EPS $

PE ratio

Answer 1

Answer :

(a.)Evaluation of Alternative of Dividend payment :

Dividend per share = 16000 / 2500 = 6.4

Price per share before dividend payment = 50

Price per share after dividend payment = 50 - 6.4 = 43.6

Wealth of the share holder before dividend payment = Value of the share held by them = 50

Wealth of shareholder after dividend payment = Dividend per share + Value per share after dividend payment

= 6.4 + 43.6

= 50

Evaluation of Alternative of Stock repurchase :

Price per share before stock repurchase= 50

Price per share after stock repurchase = 50

Wealth of the share holder before stock repurchase = Value of the share held by them = 50

Wealth of shareholder after stock repurchase = Cash Received on repurchase

= 50

(b.) Impact on EPS and PE ratio in Alternative of Dividend payment :

EPS = $2

Price per share after dividend payment = 50 - 6.4 = 43.6

Price Earning Ratio after dividend payment = 43.6 / 2 = 21.8

Impact on EPS and PE ratio in Alternative of stock repurchase :

New EPS = Earning / Total number of shares after repurchase

Number of shares repurchased = 16000 / 50 = 320 shares

New EPS = (EPS * Number of shares before repurchase) / (16000 - 320)

= (2 * 2500 ) / 15680

= 0.31887755102 or 0.32

PE ratio = 50 / 0.31887755102

= 156.8