Erna Corp. has 6 million shares of common stock outstanding. The current share p
ID: 2725468 • Letter: E
Question
Erna Corp. has 6 million shares of common stock outstanding. The current share price is $78, and the book value per share is $5. Erna Corp. also has two bond issues outstanding. The first bond issue has a face value of $65 million, has a coupon of 7 percent, and sells for 98 percent of par. The second issue has a face value of $35 million, has a coupon of 8 percent, and sells for 106 percent of par. The first issue matures in 22 years, the second in 5 years. a. What are Erna’s capital structure weights on a book value basis? (Round your answer to 4 decimal places. (e.g., 32.1616)) Equity/Value Debt/Value b. What are Erna’s capital structure weights on a market value basis? (Round your answer to 4 decimal places. (e.g., 32.1616)) Equity/Value Debt/Value c. Which are more relevant, the book or market value weights? Market value Book value
Explanation / Answer
a. Capital weight on Book value basis
Book value of equity =6,000,000 * 5 = 30,000,000
Book Value of debt = 65,000,000 + 35,000,000 = 100,000,000
Hence Total assets = 130,000,000
Book value weight of equity = 30/130 = 0.2308
Book value weight of debt = 1-0.2308 = 0.7692
b. Market Value weights
Market value weight of equity = 6,000,000 * 78 = 468,000,000
Market Value value of debt = 0.98*65,000,000 + 1.06* 35,000,000 = 100,800,000
Hence total value = 568,800,000
Market Value weight of equity = 468/568.8 = 0.8228
Market Value weight of debt = 1-0.8228 = 0.1772
c. Market value weights are more relevent
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