Question 5

Tesaro would like to change its capital structure such that its capital is 80% equity financed and 20% debt financed by issuing debt and using it to buy back equity. The appropriate cost of debt would be 10%. Please assume an arbitrary number for Tesaro's value to proceed and state your assumption clearly.

A. Restructuring.

(i) How much debt should Tesaro issue?

(ii) Suppose Tesaro needs to pay a 10% premium on the shares when buying them back. How many can it buy back?

(iii) Does it matter for Tesaro's capital structure how many shares it can buy back? Why or why not?

B. Earnings per share

(i) Calculate Tesaro's earnings per share prior to the restructuring.

(ii) Calculate Tesaro's earnings per share after the restructuring.

(iii) Based on your earnings per share calculations, is the restructuring a good idea? Why or why not?