Martin and Sons (M and S) currently is an all equity firm with 60,000 shares of
ID: 2740462 • Letter: M
Question
Martin and Sons (M and S) currently is an all equity firm with 60,000 shares of stock outstanding at a market price of $30 a share. The company's earnings before interest and taxes are $85,000. M and S has decided to add leverage to their financial operations by issuing $600,000 of debt with a 7% percent interest rate. This $600,000 will be used to repurchase shares of stock. You own 1,500 shares of M and S stock. You also loan out funds at a 7% percent rate of interest. How many of your shares of stock in M and S must you sell to offset the leverage that the firm is assuming? Assume that you loan out all of the funds you receive from the sale of your stock.
535 shares
430 shares
465 shares
505 shares
500 shares
Explanation / Answer
No . of shares repurchased by the firm = amount raised/ price per share
= 600,000 / 30
= 20,000
Shares held by the individual = 1500
No. of shares individual have to sell out to offset the leverage = Shares held x shares repurchased / total shares outstanding
= 1500 x20,000/ 60,000
= 500 shares
So the individual have to sell 500 shares.
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