Dundee Company has a total value of $74 million. Its stock sells at $32 a share.

Question

Dundee Company has a total value of $74 million. Its stock sells at $32 a share. At present, it has a loan of $10 million at 8% interest. It needs $3 million in additional capital. It can get the financing by selling 100,000 shares of stock at $30 (net) per share, or by borrowing the money at 8.5% interest. The expected EBIT after the new financing is $6 million, with a standard deviation of $3 million. Which method of financing will maximize its EPS? What is the probability that you have made the right choice?

Explanation / Answer

Financing by shares will maximize the EPS.

As the standard deviation is $ 3 million the probability is 0.5

Stock issued loan EBIT                                                         6,000,000                     6,000,000 Interest                                                                        -                           255,000 EBT                                                         6,000,000                     5,745,000 Tax at 30%                                                         1,800,000                     1,723,500 Profit after tax                                                         4,200,000                     4,021,500 Shares outstandning Intial shares                                                         2,312,500                     2,312,500 shares sold                                                            100,000                                    -   total shares                                                         2,412,500                     2,312,500 EPS                                                                 1.741                             1.739

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