Natsam Corporation has $250 million of excess cash. The firm has no debt and 500

Question

Natsam Corporation has $250 million of excess cash. The firm has no debt and 500 million shares outstanding with a current market price of $15 per share. Natsam's board has decided to payout this cash as a one-time dividend. a. What is the ex-dividend price of a share in a perfect capital market? b. If the board instead decided to use the cash to do a one-time share repurchase, in a perfect capital market, what is the price of the shares once the repurchase is complete? c. In a perfect capital market, which policy in part (a) or (b) makes investors in the firm better off?

Explanation / Answer

Ex -dividend date price of Natsam Corporation=$ 15

Price of the share after repurchase= (assumed next years earnings $ 250 m)

total no of shares repurchased = 250m/$15= 16.67m

remaining shares = 500m-16.67m= 483.33m

EPS=$ 250m/500m= $ 0.50 Share is at 30 PE ratio ( $ 15/$0.50)

EPS after repurchase = $ 250/483.33m= $ 0.52 at 30 PEratio the price =($15/0.52) =$ 28.85

so the price after repurchase = $ 28.85

Policy A is the best policy ,because it attracts tax shield

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