DAR Corporation is comparing two different capital structures, an all-equality p

Question

DAR Corporation is comparing two different capital structures, an all-equality plan (Plan I) and a levered plan (Plan II). Under Plan I, the company have 190, 000 shares of stock outstanding. Under Plan II, there would be 140, 000 shares of stock outstanding and dollar 1.95 million in debt outstanding. The interest rate on the debt in 8 percent and there are no taxes. Use M & M Proposition I to find the price per share. (Do not round intermediate calculations and round your answer to 2 decimal places, e.g., 32.16.) What is the value of the firm under each of the two proposed plans? (Do not round intermediate calculations and round your answers to the nearest whole dollar amount, e.g., 32.)

Explanation / Answer

Part 1)

Under M&M Proposition 1, the price would be calculated as follows:

Share Price = Value of Debt/(Number of Shares Repurchased with Debt)

Using the information provided in the question, we get,

Share Price = 1,950,000/(190,000 - 140,000) = $39 per share

________

Part 2)

The value of the firm under each plan is calculated as follows:

Plan 1

Value of the Firm = Number of Common Shares Outstanding*Share Price = 190,000*39 = $7,410,000

______

Plan 2

Value of the Firm = Number of Common Shares Outstanding*Share Price + Debt = (140,000*39) + 1,950,000 = $7,410,000

______

Tabular Representation

All Equity Plan $7,410,000 Levered Plan $7,410,000

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