KajunKorp currently has 1,500,000 shares of common stock outstanding with a $.07

Question

KajunKorp currently has 1,500,000 shares of common stock outstanding with a $.075 par value. The firm issued all 1,500,000 shares via an initial public offering at $11.26 per share. The firm’s total common equity balance is $28,649,000 and the firm has no treasury stock.

The firm’s total common equity balance is $28,649,000 and the firm has no treasury stock.

Determine the following balances:

            Common stock, $0.75 par:

            Additional paid-in capital:

            Retained earnings:

Also, KajunKorp estimates that it will need $12,000,000 in additional financing to support new projects in the coming year. The firm’s current debt ratio is 30% and it wishes to maintain that percentage. KajunKorp expects to generate EBIT of $6,429,000 and currently has $10,000,000 in outstanding long-term debt with a coupon rate of 7%. Any new debt issued will have the same coupon rate. KajunKorp’s tax rate is 35% and the firm currently pays a dividend of $0.10 per share; however, they would like to increase the dividend to $0.11 per share. Determine how much the firm expects to generate in retained earnings during the coming year and how many new shares (if any) of common stock KajunKorp will need to issue at the current stock price of $11.26 in order to finance the equity portion of the additional financing.

Explanation / Answer

step-1: Let us determine the firm’s total common equity balance for the current year:

Given that the firm needs additional $12,000,000 in financing to support new projects in the coming year.  

The firm's current outstanding debt = long term debt with a coupon rate of 7% = $10,000,000
given that, Any new debt issued will have the same coupon rate, that means the new debt will be $12,000,000 with coupon rate 7%

Then the total debt will be $22,000,000 with a coupon rate of 7%

Given the firm's debt equity ratio is 30%
That means Total debt / Total equity = 30%
=> 22,000,000 / Total equity = 0.3
=> Total equity (should be) = $73,333,333

Step-2: Computation of retained earning for the comoing year:

Formula, retained earnings for the coming year = retained earning for the current year + Net income - Dividend Declared

Here, we know retained earnings for the current year = $11,249,000
dividend declared = 1,500,000 shares * $0.11 per share = $165,000

Now, let us compute the Net income:

Therefore, retained earnings for the coming year =  $11,249,000 + $3,442,300 - $165,000 = $14,526,300

Step-3: Computation of new shares to be issued : Total equity required = $73,333,333

Common stock, $0.75 par (i.e, 1,500,000 shares * $0.75) $1,125,000 Additional paid-in capital (1,500,000 shares * ($11.26-$0.75) $16,275,000 Retained earnings (balance Amount) $11,249,000 Total common equity balance $28,649,000

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