Martin and Sons (M and S) currently is an all equity firm with 52,000 shares of

Question

Martin and Sons (M and S) currently is an all equity firm with 52,000 shares of stock outstanding at a market price of $25 a share. The company's earnings before interest and taxes are $83,000. M and S has decided to add leverage to their financial operations by issuing $390,000 of debt with a 8% percent interest rate. This $390,000 will be used to repurchase shares of stock. You own 2,400 shares of M and S stock. You also loan out funds at a 8% percent rate of interest. How many of your shares of stock in M and S must you sell to offset the leverage that the firm is assuming? Assume that you loan out all of the funds you receive from the sale of your stock.

Martin and Sons (M and S) currently is an all equity firm with 52,000 shares of stock outstanding at a market price of $25 a share. The company's earnings before interest and taxes are $83,000. M and S has decided to add leverage to their financial operations by issuing $390,000 of debt with a 8% percent interest rate. This $390,000 will be used to repurchase shares of stock. You own 2,400 shares of M and S stock. You also loan out funds at a 8% percent rate of interest. How many of your shares of stock in M and S must you sell to offset the leverage that the firm is assuming? Assume that you loan out all of the funds you receive from the sale of your stock.

Explanation / Answer

Hi,

Please find the detailed answer as follows:

Number of shares that can be repurchased = 390000/25 = 15600

Your % Ownership in M&S = Number of Shares Owned/Total Number of Shares = 2400/52000 = .46154

Your number of shares to be sold to Offset the Leverage = Number of shares that can be repurchased*Your % Ownership in M&S = 15600*.046154 = 720 Shares.

Answer is 720 Shares.

Thanks.

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