Merah Berhad has made the following forecast for the upcoming year based on the company’s current capitalization: Interest expenseRM2,000,000 Operating income (EBIT) RM40,000,000 Earnings per shareRM4.00 The company has RM20,000,000 worth of debt outstanding and all of its debt yields 10 %. The company’s tax rate is 30%. The company’s price-earnings (P/E) ratio has traditionally been 10´. The company’s investment bankers have suggested that the company recapitalize. Their suggestion is to issue enough new bonds at a yield of 10% to repurchase 1,400,000 shares of common stock. Assume that the repurchase will have no effect on the company’s operating income; however, the repurchase will increase the company’s dollar interest expense. Also, assume that as a result of the increased financial risk, the company’s price-earnings (P/E) ratio will be 10.5x after the repurchase. Required: 

a) What is the net income before the change?

 b) How many shares are currently outstanding? 

c) What is the current stock price? 

d) What would be the expected year-end stock price if the company proceeded with the recapitalization? Should Merah Berhad proceed with the recapitalization?

Answer rating: 100% (QA)

a Net income before the change is tabulated below RM Operating income EBIT 40000000 Less Interest ex... View the full answer