A firm had the following balance sheet as of Jan 1, 2015.
Current assets $40 Current liabilities $20
Long term assets $180 Long term liabilities $50
Total $220 Shareholders' equity par $1 $10
Addl. Paid in capital $90
Retained earnings $50
Total $220
During 2015, the firm's earnings (EAT)were $25 million.
a. At the end of 2015, suppose the firm pays out 40% of earnings as a cash dividend, retaining the rest to reinvest. Imagine 20% of the reinvested funds are used to increase current assets, and 80% to increase long term assets. If there are 10 million shares outstanding, what is EPS and dividend per share? If the stock's market price is $25/share, what is the stock's dividend yield, and what is the P/E ratio? What does the balance sheet look like as of Jan 1, 2016?
b. Now, consider what would have happened if, instead of issuing the cash dividend as in part a, the firm had used the same amount of funds to repurchase its own shares in the market. If the stock price prior to buyback was $25/share as before, what is the expected new (buyback) price? How many shares would be repurchased at this price? What would the new balance sheet look like after the buyback?