Question

The Presley Corporation is about to go public. It currently has aftertax earnings of $7,000,000, and 3,100,000 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 $25 per share, with a 5 percent spread on the offering price. There will also be $230,000 in out-of-pocket costs to the corporation.

a. Compute the net proceeds to the Presley Corporation

Net proceeds: ?

b. Compute the earnings per share immediately before the stock issue.

Earnings per share: ?

c. Compute the earnings per share immediately after the stock issue

Earnings per share: ?

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.

Rate of return: ?%

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

Rate of return: ?%

Answer 1

Answer to Part a.
No. of New Shares issued = 600,000 Shares
Issue Price = $25 – ($25 * 5%)
Issue Price = $23.75

Net Proceeds = ($23.75 * 600,000) - $230,000
Net Proceeds = $14,250,000 - $230,000
Net Proceeds = $14,020,000

Answer to Part b.
Earning per Share before Stock issue = Net Income / Shares Outstanding before Share issue
Earning per Share before Stock issue = 7,000,000 / 3,100,000
Earning per Share before Stock issue = $2.26

Answer to Part c.
Earning per Share after Stock issue = Net Income / Shares Outstanding after Share Issue
Shares Outstanding after Share Issue = 3,100,000 + 600,000 = 3,700,000 Shares

Earning per Share after Stock issue = 7,000,000 / 3,700,000
Earning per Share after Stock issue = $1.89

Answer to Part d.
Shares Outstanding after Stock Issue = 3,700,000 Shares
Earnings required to maintain EPS = $2.26 * 3,700,000
Earnings required to maintain EPS = $8,362,000

Current Level of Earnings = $7,000,000
Incremental Earnings required to maintain EPS = $8,362,000 - $7,000,000
Incremental Earnings required to maintain EPS = $1,362,000

Rate of Return required on the Net Proceeds = 1,362,000 / 14,020,000 * 100
Rate of Return required on the Net Proceeds = 9.71%