Question

Kahn Inc. (KI) is a distributor of intellectual property. Suppose that you are a member of the financial analyst team at Edward Jones Investments (EJI) and have ascertained the following about KI as of June 15, 2018:

KI’s management desires to maintain a target capital structure of 60% common equity and 40% debt to fund its $10 billion in operating assets.

KI’s WACC is 13%;

KI has a before-tax cost of debt of 10%, and a corporate tax rate of 25%;

KI’s forecast net income is expected to be $1.1 billion;

KI’s retained earnings (aka, internally generated funds) are sufficient to cover all of the equity portion of its capital budget; that is, Ki will not need to issue new common stock for any upcoming capital expenditures (CAPEX);

KI’s expected dividend next year is $3 per common share;

KI’s current stock price is $35.

TASKS: Please -

-Calculate KI’s expected growth rate;

-Determine the portion of KI’s income that it will be expected to pay out as dividends to shareholders if it adheres to its target debt : equity ratio.

-Based on the financial information you have developed for this case scenario, forecast KI’s assets, liabilities, and shareholders’ equity for its next fiscal year ended June 15, 2019. Be sure to state assumptions and logic !

Answer 1

P0= D1/(ke-g)

35=3/(0.13-g)

4.55-35g=3

35g=1.55

G=1.55/35 , g=0.04%

(ii) Forecasted income= $1.1 billion

Equity share=60% , equity capital=$6 billion

Assuming that each share is of $10, therefore, no of shares=$ 0.6 billion

Net income=1.1*1000000000 =1100000000

Less: interest on debt. = 400000000 (4000000000*10%)

EBT. = 700000000

Less tax. = 175000000

Earnings for equity. = 525000000

Therefore, dividend payable= 525000000 as this is the amount that is remaining for equity shareholders

(iii) KI’s debt= $4 billion

KI’s equity= $11.25 billion

KI assets= $ 15.25 billion

Assumed that no dividend is distributed