JanAm generates $30 million in perpetual operating income (i.e., no change in investment policy). The company has a market capitalization of $100,000,000, and its share is currently selling at $100 per share. The firm has $100,000,000 in debt obligation, with an interest rate of 10%. The firm wants to increase its leverage by repurchasing 200,000 shares of its outstanding stock at the prevailing market price ($100 per share) and plans to finance the equity repurchase by issuing $20,000,000 bond at 10%.
1. How can investors undo the effect of JanAm's capital structure change?
2. What obstacles will investors run into in real life, preventing them from completing the necessary transactions to undo JanAm's capital structure change?