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QUESTION

Hi, I am having a very difficult time with this problem. Thank you! A firm currently has no debt.

Hi, I am having a very difficult time with this problem. any help will be appreciated.

Thank you!

A firm currently has no debt. The firm has 10 million shares outstanding and those

shares currently have a market price of $20 per share. The firm is contemplating selling

$50 million in bonds and using the proceeds to repurchase shares of stock. The corporate

income tax rate is 35%, the effective personal tax rate on equity income is 10%, and the

personal income tax rate on interest income is 20%. Given this data, if the firm

announces that they will sell the bonds and repurchase equity, what do you expect the

stock price to be:

(a) immediately after the announcement

(b) after the bond issue and repurchase are complete

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