Question

Enterprise Storage Company has 530,000 shares of cumulative preferred stock outstanding, which has a stated dividend of $6.75. It is six years in arrears in its dividend payments. Use Appendix B for an approximate answer but calculate your final answer using the formula and financial calculator methods.

a. How much in total dollars is the company behind in its payments? (Do not round intermediate calculations. Input your answer in dollars, not millions (e.g., $1,234,000).)
  

Dividend in arrears

b. The firm proposes to offer new common stock to the preferred stockholders to wipe out the deficit.

The common stock will pay the following dividends over the next four years:

D1	$1.60
D2	1.70
D3	1.80
D4	1.90

The company anticipates earnings per share after four years will be $4.18 with a P/E ratio of 13.

The common stock will be valued as the present value of future dividends plus the present value of the future stock price after four years. The discount rate used by the investment banker is 14 percent.

Compute the value of the common stock. (Do not round intermediate calculations and round your answer to 2 decimal places.)

Common stock

c. How many shares of common stock must be issued at the value computed in part b to eliminate the deficit (arrearage) computed in part a? (Do not round intermediate calculations and round your answer to the nearest whole share.)

Number of shares of common stock

Answer 1

(a) Number of Cumulative Preferred Shares Outstanding = 530000, Stated Dividend = $ 6.75 per share and Number of Years in Arrears = 6

Dividend in Arrears = 6 x 6.75 x 530000 = $ 21465000

(b) Estimated EPS (earnings per share) at the end of Year 4 = $ 4.18 and PE Ratio = 13

Estimated Future Stock Price at the end of Year 4 = 4.18 x 13 = $ 54.34

Discount Rate = 14 %, D1 = $ 1.6, D2 = $ 1.7, D3 = $ 1.8 and D4 = $ 1.9

Current Stock Price = 1.6 / 1.14 + 1.7 / (1.14)^(2) + 1.8 / (1.14)^(3) + 1.9 / (1.14)^(4) + 54.34 / (1.14)^(4) = $ 37.225 ~ $ 37.22

(c) Number of Shares of Common Stock Required to be Issued = Dividends in Arrear / Current Stock Price = 21465000 / 37.22 = 576706.1 ~ 576706