Chapter 5: 11DQ (page 471)
The efficient market hypothesis is interpreted in a weak form, a semi strong form, and a strong form. How can we differentiate its various forms?
The differentiation of various forms is done on the basis of information associated with the prices.
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Tyson Iron Works is about to go public. It currently has after-tax earnings of \(4,400,000, and 4,200,000 shares are owned by the present stockholders. The new public issue will represent 500,000 new shares. The new shares will be priced to the public at \)25 per share with a 3 percent spread on the offering price. There will also be $280,000 in out-of-pocket costs to the corporation.
b. Compute the earnings per share immediately before the stock issue.
Tiger Golf Supplies has $25 million in earnings with 7 million shares outstanding. Its investment banker thinks the stock should trade at a P/E ratio of 31. Assume there is an underwriting spread of 7.8 percent. What should the price to the public be?
Walton and Company is the managing investment banker for a major new underwriting. The price of the stock to the investment banker is \(23 per share. Other syndicate members may buy the stock for \)24.25. The price to the selected dealers group is \(24.80, with a price to brokers of \)25.20. Finally, the price to the public is $29.50.
Question: Barton Simpson, the chief financial officer of Broadband Inc. could hardly believe the change in interest rates that had taken place over the last few months. The interest rate on A2 rated bonds was now 6 percent. The $30 million, 15-year bond issue that his firm has outstanding was initially issued at 9 percent five years ago. Because interest rates had gone down so much, he was considering refunding the bond issue. The old issue had a call premium of 8 percent. The underwriting cost on the old issue had been 3 percent of par, and on the new issue it would be 5 percent of par. The tax rate would be 30 percent and a 4 percent discount rate would be applied for the refunding decision. The new bond would have a 10-year life. Before Barton used the 8 percent call provision to reacquire the old bonds, he wanted to make sure he could not buy them back cheaper in the open market.
b. Compare the price in part a to the 8 percent call premium over par value. Which appears to be more attractive in terms of reacquiring the old bonds?
The Presley Corporation is about to go public. It currently has after-tax earnings of \(7,200,000, and 2,100,000 shares are owned by the present stockholders (the Presley family). The new public issue will represent 800,000 new shares. The new shares will be priced to the public at \)25 per share, with a 5 percent spread on the offering price. There will also be $260,000 in out-of-pocket costs to the corporation.
d. Determine what rate of return must be earned on the net proceeds to the corporation so there will not be a dilution in earnings per share during the year of going public.
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