Question

Suppose that a company's equity is currently selling for $42.00 per share and that there are 1.8 million shares outstanding and 28 thousand bonds outstanding, which are selling at 111.00 percent of par. If the firm was considering an active change to their capital structure so that the firm would have a D/E of 1.8, which type of security (stocks or bonds) would they need to sell to accomplish this, and how much would they have to sell? (Round your intermediate ratio to 4 decimal places.)

Answer choices:

• $26,580,960 in new debt

• $10,927,728 in new equity

• $37,508,688 in new equity

• $37,508,688 in new debt

Answer 1

	Old	New	Change
Equity	$       75,600,000	$   38,100,000	$ 37,500,000
Debt	$       31,080,000	$   68,580,000
Total	$    106,680,000	$ 106,680,000
D/E	0.41	1.80

Calculate the value of equity and debt and the total value of the firm.

With new D/E, Value of equity = Total Value x 1 / (1 + 1.8) and value of debt = total value - equity

=> You need to sell equity worth $37.5 million