## QUESTIONS ON MARKET PRICE

QUESTION ONE

XYZ Ltd has an issued share capital of 10 million ordinary shares with a par value of £1, on which it pays a constant dividend of £0.4 per share. The market value per share was £2 ex-dividend.

The company then proposed a 1 for 4 rights issue with an issue price of £1.50. The money raised would be used to finance a major new project, which was expected to increase annual profits after taxation by £950,000. This information is released together with the announcement of rights issue.

Required:

(a) Compute the cum-right price at the eve-of the rights issue

(b) Compute the theoretical ex-rights price

(c) Calculate the market price per share at the time of the rights issue if the money raised was to be used to redeem £3,750,000 of 8% debentures. The tax rate is 50%.

QUESTION TWO

Dimango Company is considering whether it would be financially advisable to retire its existing long term debt with a cheaper loan. The current loan of Sh 10 million has an annual interest charge of 15% and has 10 years to maturity. The company has Sh 125,000 of unamortized loan expenses still in the books.

If the company decides to redeem the loan, there is an early payment penalty amounting to 10% of the loan. A new Sh 10 million loan can be raised at 13% per annum for a ten year period. It is expected that underwriting costs will amount to Sh 600,000. In addition to these costs, the company will be further required to pay interest for the two months which would allow the normal interest payment due to be reached for the old loan.

Dimango Company is in the 40% income tax bracket.

Required:

(a) Calculate the net amount of cash investment required for the refunding of the loan.

(b) Compute the annual cash savings which result from refunding

(c) Determine whether refunding is advantageous to the company

(PVIFA 8% = 6.71)