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1) C Company recorded the following transaction on September 17, 2036: Raised $10,000 cash by borrowing $5,000 from the local bank and selling $5,000 of common stock
1) C Company recorded the following transaction on September 17, 2036:
Raised $10,000 cash by borrowing $5,000 from the local bank and selling $5,000 of common stock. How would the above transaction effect C Company's debt-to-equity ratio? Assume the debt-to-equity ratio was 75% before recording the above transaction.
2) The Meltzer Corporation is contemplating a 8-for-2 stock split. The current stock price is $60 per share, and the firm believes that its total market value would increase by 6% as a result of the improved liquidity that it thinks would follow the split. What is the stock's expected price following the split?
Expert Solution
1) Computation of the effect on debt-to-equity ratio:-
Assume, the debt = $75,000
Equity = $100,000
Debt-to-equity ratio = $75,000 / $100,000
= 75%
New debt = $75,000 + $5,000
= $80,000
New equity = $100,000 + $5,000
= $105,000
New debt-to-equity ratio = New debt / New equity
= $80,000 / $105,000
= 76.19%
Hence, the debt-to-equity ratio would be increased by 76.19%
2) Computation of the expected stock price following the split:-
Stock price before the split = Current price * 2 / 8
= $60 * 2 / 8
= $15
Expected stock price following the split = Stock price before the split * (1 + % increase in market value)
= $15 * (1 + 6%)
= $15.90
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