Chapter16
•Raising Capital
McGraw-Hill/Irwin Copyright © 2006 by The McGraw-Hill Companies, Inc. All
Chapter 16 – Index of Sample
Problems
• Slide # 02 - 03 Dutch auction
• Slide # 04 - 05 IPO allocations
• Slide # 06 - 07 Flotation costs
• Slide # 08 - 09 Rights – Number of shares needed
• Slide # 10 - 11 Rights – Number of rights
• Slide # 12 - 18 Rights – Value of a right
• Slide # 19 - 20 Dilution – Ownership
• Slide # 21 - 25 Dilution – Accounting and financial
• Slide # 26 - 30 Dilution – Portfolio value
2: Dutch auction
The Samson Co. wants to sell 1,000 shares of stock. The shares
are to be sold in a Dutch auction. The following bids have been
received.
Bidder Quantity Price
A 200 $23
B 400 $21
C 600 $19
D 500 $18
How much will the company receive per share of stock sold?
3: Dutch auction
The Samson Co. wants to sell 1,000 shares of stock.
Bidder Quantity Price Total Quantity
A 200 $23 200 = 200
B 400 $21 200 + 400 = 600
C 600 $19 200 + 400 + 600 = 1,200
D 500 $18
How much will the company receive per share of stock sold?
4: IPO Allocations
You have placed orders to purchase 100 shares of each of three
IPOs. Each IPO is priced at $10 a share. The number of shares you
are allocated and the market price at the end of the first day are:
Stock Shares allocated Market price
A 100 $ 8.00
B 80 $11.00
C 20 $15.00
What is the amount of your total profit or loss on these stocks as
of the end of the first day of trading?
5: IPO allocations
Number of shares Profit or
(Ending price – Cost) Loss
100 ($ 8 - $10) -$200
80 ($11 - $10) $ 80
20 ($15 - $10) $100
Total -$ 20
6: Flotation costs
The Alpha Co. wants to raise $20 million to fund a new project.
The company estimates that it will spend $500,000 for
accounting, legal and other costs related to the issue. The
underwriting spread is 7.5 percent. The issue price of the stock
is $25 a share.
How many shares of stock does the Alpha Co. need to sell?
7: Flotation costs
$20,000,000 $500,000
Total value of issue
1 - .075
$20,500,000
.925
$22,162,162 (rounded)
$22,162,162
Number of shares
$25
886,486 shares (rounded)
8: Rights – Number of shares
needed
Tell Me Why, Inc. wants to raise $6 million to develop a new
website designed for kids. The company has decided to do this
through a rights offering with a subscription price of $40. The
current market price of Tell Me Why, Inc. stock is $51.59 per share.
How many new shares of stock does the company need to sell?
Note: The subscription price is less than the current market price .
This is necessary if a right is to have any value.
9: Rights – Number of shares
needed
$6,000,000
Number of shares needed
$40
150,000 shares
10: Rights – Number of rights
Telephoto, Inc. wants to raise $12 million through a rights offering.
Each shareholder will receive one right for each share they own.
The subscription price has been set at $20. Currently, the company
has 1.5 million shares outstanding with a current market price of
$28.45 a share.
How many rights will be issued?
How many rights will be needed to purchase one new share of
stock in this offering?
11: Rights – Number of rights
The company will issue 1.5 million
rights since there are 1.5 million
shares of stock outstanding.
$12,000,000
Number of shares needed
$20
600,000
Old shares
Rights needed for each new share
New shares
1,500,000
600,000
2.5
12: Rights – Value of a right
Kurt currently owns 4 shares of Ideals, Inc. These shares have a
market value of $36 each. Ideals just announced the details of a
new rights offering. The company will issue one right per share of
outstanding stock. The new shares in this offering are priced at
$20 plus 4 rights.
What is the value of one right?
13: Rights – Value of a right
Total invested (4 $36) $20
$164
$164
Cost per share
4 1
$164
5
$32.80
Value of right $36.00 - $32.80
$3.20
14: Rights – Value of a right
Ex - rights price $20 4 rights
$32.80 $20 (4 $3.20)
$32.80 $20 $12.80
$32.80 $32.80
15: Rights – Value of a right
Alexander & Co. currently has a total firm value of $21.6 million.
The company has decided to raise another $6 million through a
rights offering. The subscription price is $15 per new share
purchased. The company currently has 1.2 million shares
outstanding and will issue one right per outstanding share.
How many rights will be needed to purchase one new share?
What is the value of one right?
16: Rights – Value of a right
$6,000,000
Number of shares needed
$15
400,000 shares
Old shares
Number of rights needed
New shares
1,200,000
400,000
3
17: Rights – Value of a right
$21,600,000
Current share price
1,200,000
$18.00
$21,600,000 $6,000,000
Ex rights price of stock
1,200,000 400,000
$27,600,000
1,600,000
$17.25
Value of one right $18.00 - $17.25
$.75
18: Rights – Value of a right
Ex - rights price Subscription price 3 rights
$17.25 $15 (3 $.75)
$17.25 $15 $2.25
$17.25 $17.25
19: Dilution - Ownership
Tomas owns 3,500 shares of stock in Hot Tamales. The company
currently has 25,000 shares outstanding and is preparing to sell an
additional 10,000 shares to finance future expansion. Tomas is not
going to purchase any additional shares.
How will Tomas’ ownership position in Hot Tamales change as a
result of this new issue of stock?
20: Dilution - Ownership
3,500
Current position 14%
25,000
3,500
Future position 10%
25,000 10,000
21: Dilution – Accounting and
financial
JKL, Inc. has compiled information on their current financial status
as seen in the table on the next slide. The company is analyzing
the financial impact of a proposed project. The project requires an
initial investment of $200,000 for fixed assets. This investment will
be funded by issuing additional shares of stock. The project has a
net present value of $100,000 and a price / earnings ratio equal to
that of the firm.
Given this information, can you complete the last column on the
next slide to show how the various values will change if the project
is implemented?
22: Dilution – Accounting and
financial
Current firm Firm with new project
Shares outstanding 200,000
Book value $1 million
Book value per share $5
Market value $1.6 million
Market value per share $8
Net income $100,000
Return on equity 10%
Earnings per share $.50
Earnings per share / Price .0625
Price / Earnings per share 16
Price / Book 1.6
23: Dilution – Accounting and
financial
Here are some questions to help you:
What will the book value of the company be if you add $200,000 of
fixed assets to the current book value?
What will the market value of the company be if you add $200,000
of fixed assets plus $100,000 from the net present value of the
project to the current market value?
How many shares of stock will need to be sold at the current
market price to raise the $200,000 needed to buy assets?
24: Dilution – Accounting and
financial
What is the market value per share?
If the market value per share, also called the price, is $8.4444 and
the price / earnings ratio is 16, what is the earnings per share?
If you multiply the earnings per share times the number of shares,
won’t you get the net income?
Isn’t the return on equity equal to the net income divided by the
book value?
25: Dilution – Accounting and
financial
Current firm Firm with new project
Shares outstanding 200,000 225,000
Book value $1 million $1.2 million
Book value per share $5 $5.3333
Market value $1.6 million $1.9 million
Market value per share $8 $8.4444
Net income $100,000 $118,755
Return on equity 10% 9.90%
Earnings per share $.50 $.5278
Earnings per share / Price .0625 .0625
Price / Earnings per share 16 16
Price / Book 1.6 1.58
26: Dilution – Portfolio value
You own 5,000 shares of ABC Co. This represents a 20%
ownership position. The current market price of ABC stock is $40 a
share.
By what percentage will your portfolio value change if the
company sells an additional 5,000 shares of stock at $38 a share
and you do not buy any?
27: Dilution – Portfolio value
Here are some questions to help you answer this problem:
How many shares of stock are currently outstanding?
What is the current value of the firm?
How many shares will be outstanding after the new issue is
released?
By how much will the value of the firm increase when the new
shares are sold?
28: Dilution – Portfolio value
How many shares of stock are currently outstanding?
5,000 .20 = 25,000
What is the current value of the firm?
25,000 $40 = $1,000,000
How many shares will be outstanding after the new issue is
released?
25,000 + 5,000 = 30,000
By how much will the value of the firm increase when the new
shares are sold?
$1,000,000 + (5,000 $38) = $1,190,000
29: Dilution – Portfolio value
What is the new price per share?
What is your new portfolio value?
What was your original portfolio value?
What is the percentage change in the value of your portfolio?
30: Dilution – Portfolio value
What is the new price per share?
$1,190,000 30,000 = $39.6667
What is your new portfolio value?
5,000 $39.6667 = $198,333.50
What was your original portfolio value?
5,000 $40.00 = $200,000.00
What is the percentage change in the value of your portfolio?
$198,333.50 - $200,000
Percentage change in your portfolio
$200,000
.0083
.83%
Chapter16
•End of Chapter 16
McGraw-Hill/Irwin Copyright © 2006 by The McGraw-Hill Companies, Inc. All