Reference no: EM132554823
Go back to the first Hewlard Pocket balance sheet (see Table 17.1 in the text). Pocket needs to hold on to $50,000 of cash for a future investment. Nevertheless, it decides to pay a cash dividend of $2 per share, and to replace the cash with a new issue of shares. After the dividend is paid and the new stock is issued:
Original Balance Sheet
Cash $150,000 Debt $ 0
Other Assets 950,000 Equity 1,100,000
Value of Firm 1,100,000 1,100,000
Shares outstanding = 100,000
Price per share= $1,100,000 / 100,000 = $11
To pay out $2 dividend, the total shares outstanding is multiplied by $2 to get a payout of $200,000. As $50,000 needs to remain in cash, there is only $100,000 available, so the other $100,000 must be raised by selling new shares.
At $11 a share, the total number of shares that need to be sold is $100,000 / $11 = 9,090.909 (rounded to 9, 091).
Cash is reduced by $100,000 and increased by the $1 extra from the sale of new shares that was not used for the dividend for a new total of $50,001, and Equity is reduced by $200,000 and increased by $100,001 for a new total of $1,000,001.
After dividend and new share issue
Cash $ 50,001 Debt $ 0
Other Assets 950,000 Equity 1,000,001
Value of Firm $1,000,001 $1,000,001
Shares outstanding = 109,091
Price per share= $1,000,001 / 109,091 = $9.166 (rounded to $9.17)
a. What will be the price per share? $9.17
b. What will be the total value of the company? $1,000,001
c. What will be the total value of the stock held by new investors?
9,091 new shareholders x $9.17 price per share = $83,364.47
d. What will be the wealth of the existing investors including the dividend payment?
100,000 original shares outstanding x $9.17 price per share = $917,000
$917,000 + $200,000 = $1,117,000
Verify answers please.