Suppose that Lil John Industries equity is currently selling for $42 per share a

Question

Suppose that Lil John Industries equity is currently selling for $42 per share and that 3.5 million shares are outstanding. The firm also has 65,000 bonds outstanding, which are selling at 103% of par. Assume Lil John was considering an active change to its capital structure so that the firm would have a D/E of 1.4. Which type of security would it need to sell to accomplish this? A. Sell bonds and buy back stock B. Sell stock and buy back bonds
How much would the firm have to sell? (Answer must be in dollars not in millions. Do not round intermediate calculations and round your final answer) Selling Amount: ___________ Suppose that Lil John Industries equity is currently selling for $42 per share and that 3.5 million shares are outstanding. The firm also has 65,000 bonds outstanding, which are selling at 103% of par. Assume Lil John was considering an active change to its capital structure so that the firm would have a D/E of 1.4. Which type of security would it need to sell to accomplish this? A. Sell bonds and buy back stock B. Sell stock and buy back bonds
How much would the firm have to sell? (Answer must be in dollars not in millions. Do not round intermediate calculations and round your final answer) Selling Amount: ___________ Which type of security would it need to sell to accomplish this? A. Sell bonds and buy back stock B. Sell stock and buy back bonds
How much would the firm have to sell? (Answer must be in dollars not in millions. Do not round intermediate calculations and round your final answer) Selling Amount: ___________

Explanation / Answer

Statement showing computation on the basis of Market Value Particulars No of shares Selling Price Weighted Cost of Capital Equity                              3,500,000.00 42.00                                         147,000,000.00 Debt                                    65,000.00 1030.00                                            66,950,000.00                                         213,950,000.00 Debt Equity Ratio = Debt/ Equity Debt Equity Ratio = 66,950,000/147,000,000 Debt Equity Ratio = .46 B. Sell stock and buy back bonds since it would increase bonds and decrease stock. Total Capital                          213,950,000.00 Debt/Equity = 1.4 Debt =1.4 Equity Debt + Equity = 213,950,000 2.4 Equity = 213,950,000 Desired Equity = 89,145,833.33 Desired Debt = 89,145,833.33*1.4 = 124,804,166.66 Sell Stock = 147,000,000 - 89,145,833.33 = 57854166.66

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