Filer Manufacturing has 5 million shares of common stock outstanding. The curren

Question

Filer Manufacturing has 5 million shares of common stock outstanding. The current share price is $77, and the book value per share is $8. The company also has two bond issues outstanding. The first bond issue has a face value $60 million, a coupon of 6 percent, and sells for 97 percent of par. The second issue matures in face value of $30 million, a coupon of 7 percent, and sells for 105 percent of par. The first issue matures in 21 years, the second in 4 years. a. What are the company's capital structure weights on a book value basis? equity/value or debt/value b. What are the company's capital structure weights on a market value basis? equity/ value or debt/value c. which are more relevant? market value weights or book value weighs

Explanation / Answer

Answer:a The book value of equity is the book value per share times the number of shares,and the book value of debt is the face value of the company’s debt:

Equity = 5,000,000($8) = $40,000,000

Debt = $60,000,000+$30,000,000 = $90,000,000

The total book value of the company is equal to $40,000,000+$90,000,000=$130,000,000,

and the book value weights of equity and debt are:

Equity/Value = $40,000,000/$130,000,000 = 0.3077

Debt / Value = 1- Equity/Value

=1-0.3077=0.6923

Answer:b The market value of equity is the share price times the number of shares:

Equity = 5,000,000($77) = $385,000,000

The total market value of debt is the price quote times the par value of the bond.Therefore:

Debt = 0.97($60,000,000)+1.05($30,000,000) = $89,700,000

This makes the total market value of the company equal to $385,000,000+$89,700,000 =$474,700,000, and

the market value weights of equity and debt are:

Equity/Value = $385,000,000/$474,700,000 = 0.8110

Debt / Value = 1- Equity/Value=0.189

Answer:c The market value weights are more relevant. The reason is that book values reflect historical costs,but market values are forward looking, based on what the firm’sassets are expected to produce in the future. Holders of the firm’s financial claims (equityand debt) assess the firm based on the market value of its assets, not the book value.

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