Question

For a currently publicly traded firm. If managers recognize that the current price of their stock is above its fundamental value (P1), how could they take advantage of the situation for the benefit of the firm?

a. Borrow money at the current interest rate for AAA rated bonds
b. Issue stock in a Seasoned Equity Offering
c. Repurchase Shares
d. None of the above

Answer 1

Managers can benefit the firm by issuing stock in a Seasoned Equity Offering when the stock price is above its fundamental value, raising more capital than the shares are fundamentally worth without the fixed costs of debt.

Step-by-step explanation:

If managers of a publicly traded firm recognize that the current stock price is above its fundamental value, the most advantageous strategy for the benefit of the firm is to issue stock in a Seasoned Equity Offering (SEO). This allows the firm to raise capital by selling shares at the inflated price, which provides the firm with more funds than the shares are fundamentally worth. With this strategy, the firm can capitalize on the overvalued stock price without incurring the fixed costs associated with debt financing, such as with issuing bonds or borrowing from a bank. This equity capital can be used for various beneficial purposes, such as investing in new projects, repaying existing debt, or bolstering the firm's financial position.