Newdex has net income of $3,000,000 (INCLUDING the effect of expected underwriting costs) and 1,000,000 shares outstanding. It needs to raise $5,000,000 in funds for a new asset. Its investment banker plans to sell an issue of common stock to the public for $40, less a spread of 10%. How much must Newdex's after-tax income be to prevent dilution of earnings per share?

Question

Quizplus · Accepted Answer

To prevent dilution, Newdex needs to earn enough after-tax income to cover the new shares issued.

First, we need to calculate how many shares will be issued:
Amount of funds needed / price per share = Number of shares issued
$5,000,000 / ($40 x 0.9) = 138,888.89
(rounded to 138,889)

Now, we need to calculate the new earnings per share:
(Net income - underwriting costs) / (Shares outstanding + new shares issued) = Earnings per share
($3,000,000 - 0) / (1,000,000 + 138,889) = $2.59

To prevent dilution, the earnings per share must remain at $2.59. We can set up an equation to solve for the new net income needed:
(Net income - underwriting costs) / (Shares outstanding + new shares issued) = Earnings per share
(Net income - 0) / (1,000,000 + 138,889) = $2.59
Net income = $3,416,667

Therefore, Newdex's after-tax income must be $3,416,667 to prevent dilution of earnings per share.

Newdex Has Net Income of $3,000,000 (INCLUDING the Effect of Expected