EnviroStyro Inc.is all equity financed and generates perpetual annual EBIT of $750.Assume that the EBIT,and all other cash flows,occur at year end and that we are currently at the beginning of a year.EnviroStyro has 1,500 shares outstanding which trade for $3.611.The stockholders of EnviroStyro require a return of 9%.EnviroStyro is considering an open market stock repurchase.It plans to buy 15% of its outstanding shares at a price of $3.811.The repurchased shares will be cancelled.It will finance the repurchase by issuing perpetual bonds with a coupon rate (and yield)of 5%.Assume that the tax rate is 35%.What is the price of EnviroStyro shares after the repurchase (P_A)?

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This solution uses Modigliani & Miller Proposition I with taxes. V_U = 11ea7fdb_fc65_64df_a768_41c20e0e5de9_TB2902_11 V_U = 11ea7fdb_fc65_64e0_a768_4385c3fbb8ab_TB2902_11 = $5,416.667 After the repurchase, debt equals the cost of the repurchase: D = P_R × N_B × f D = $3.811 × 1,500 × 0.15 = $857.52 The value of the (levered) firm after the repurchase is: V_L = V_U + T × D V_L = $5,416.67 + 0.35 × $857.52 = $5,716.80 The value of levered equity after the repurchase is: E_L = V_L - D E_L = $5,716.80 - $857.52 = $4,859.28 The stock price is after the repurchase is: Price = 11ea7fdb_fc65_64e1_a768_5d33f57ffe5a_TB2902_11 Solve for the number of shares outstanding, N_A. N_A = N_B - N_R N_A = 1,500 - (0.15 × 1,500) = 1,275 Therefore, the stock price after the repurchase is: Price = 11ea7fdb_fc65_64e2_a768_11ca2cd48db3_TB2902_11 = $3.811