solution

Problem 17-7 MM proposition 1

Executive Chalk is financed solely by common stock and has outstanding 27 million shares with a market price of $14 a share. It now announces that it intends to issue $210 million of debt and to use the proceeds to buy back common stock.

1. a. How is the market price of the stock affected by the announcement?

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2. b. How many shares can the company buy back with the $210 million of new debt that it issues? (Enter your answer in millions.)

3. c-1. What is the market value of the firm (equity plus debt) after the change in capital structure? (Enter your answer in millions.)

4. c-2. Did the market value of the firm change?

5. d. What is the debt ratio after the change in structure? (Round your answer to 2 decimal places.)

6. e. Who (if anyone) gains or loses?