The company has the following market values of debt and equity: Market Value of debt: $40 Market
Question:
The company has the following market values of debt and equity:
Market Value of debt: $40
Market Value of Equity $60
The firm has 10 shares outstanding; thus the current price per share is $6. The managers are considering an investment project with an initial cost of 30. They believe that the project should be worth $40. The company announces that it will issue new common stocks to obtain $30. However due to information asymmetry between the management and the investors, as soon as the firm makes the announcement, investors believe that the firms common stock must be overvalued and consequently bid down the price to $5.7 per share.However the new common stock issuance would increase the total value of equity that lowers the debt ratio. Investors feel that the debt is thus safer than before: therefore, the interest rate for the debt drops and the value increases to $45.
What is the total value of the firm right after the firm completes the stock issuance?
a. 125.53
b 138.98
c. 142. 09
d 132.00
Principles of Managerial Finance
ISBN: 978-1408271582
Arab World Edition
Authors: Lawrence J. Gitman, Chad J. Zutter, Wajeeh Elali, Amer Al Roubaix