The Metallica Heavy Metal Mining (MHMM) Corporation wants to diversify its opera

Question

The Metallica Heavy Metal Mining (MHMM) Corporation wants to diversify its operations. Some recent financial information for the company is shown here:

MHMM is considering an investment that has the same PE ratio as the firm. The cost of the investment is $640,000, and it will be financed with a new equity issue. (Do not round intermediate calculations.)

The ROE on the investment would have to be  percent (Round your answer to 2 decimal places (e.g., 32.16).) if we wanted the price after the offering to be $50 per share (assume the PE ratio remains constant), and the NPV of the investment would be $ (Leave no cells blank - be certain to enter "0" wherever required.). Accounting dilution does not occur in this case. Market value dilution does not occur in this case.

The Metallica Heavy Metal Mining (MHMM) Corporation wants to diversify its operations. Some recent financial information for the company is shown here:

Explanation / Answer

The total equity of the company is total assets minus total liabilities, or:

Equity = $6100000 – 3800000 Equity =2300000

So, the current ROE of the company is:

ROE 0 = NI 0 /TE 0 = 450000 / 2300000 = .195 or 19.5

The new net income will be the ROE times the new total equity,

or: NI 1 = (ROE 0 )(TE 1 ) = 0.195(2300000 + 640,000) = 2940000

The company’s current earnings per share are: EPS 0 = NI 0 /Shares outstanding 0 = $450000/25,000 shares = 18

The number of shares the company will offer is the cost of the investment divided by the current share price, so:

Number of new shares = 640000/50 = 12800

The earnings per share after the stock offer will be: EPS 1 = $450000/37800 shares = 11.90

The current P/E ratio is: (P/E) 0 = $50/11.9 = 4.2

Assuming the P/E remains constant, the new stock price will be: P 1 = 4.2(11.9) = 49.98

The current book value per share and the new book value per share are:

BVPS 0 = TE 0 /shares 0 = (6100000 – 3800000)/25,000 shares = 92 per share

BVPS 1 = TE 1 /shares 1 = (6100000 – 3800000 + 640000)/37800 shares = 43.91 per share

So the current and new market-to-book ratios are:

Market-to-book 0 = $50/92 = 0.543

Market-to-book 1 = $49.98/43.98 = 1.136

The NPV of the project is the cost of the project plus the new market value of the firm minus the current market value of the firm,

or NPV = –640,000 + [49.98(12800) – 50(25,000)] = -1250256

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