Question

Schwartz Industry is an industrial company with 102.6 million shares outstanding and a market capitalization​ (equity value) of $ 3.49 billion. It has ​$2.05 billion of debt outstanding. Management have decided to delever the firm by issuing new equity to repay all outstanding debt. a. How many new shares must the firm​ issue? b. Suppose you are a shareholder holding 100​ shares, and you disagree with this decision. Assuming a perfect capital​ market, describe what you can do to undo the effect of this decision.

Answer 1

a. How many new shares must the firm​ issue?

We first find the price per share. We divide the market capitalization value by the number of shares outstanding:

Price per share = $3,490,000,000/102,600,000

= $34.01

Now, we divide the debt outstanding by the price per share

Shares to be issued = $2,050,000,000/34.02

= 60,266,476

Thus, Schwartz industry must issue 60,266,476 new shares to pay all outstanding debt.

b. Suppose you are a shareholder holding 100​ shares, and you disagree with this decision. Assuming a perfect capital​ market, describe what you can do to undo the effect of this decision.

All you can do is to even out your position under the new circumstances. To do so, you must buy a proportional number of newly issued shares.

In this case, at first the total number of shares outstanding is 102,600,000, and you hold 100 of those. That means that you hold the 0.000097% of the shares.

Now, the total number of shares outstanding is 162,866,476, and the 0.000097% of that is 157, thus, to keep your position, you must buy 57 of the newly issued shares.