FCOJ, Inc., a prominent consumer products firm, is debating whether or not to convert its all-equity to one that is 30 percent debt. Currently, there are 7,400 shares outstanding and the price per share is $55. EBIT is expected to remain at $20,900 per year forever. The interest rate on new debt is 8 percent, and there are no taxes.
a. Melanie, a shareholder of the firm, owns 100 shares of stock. What is her cash flow under the current assuming the firm has a payout rate of 100 percent?
b. What will Melanie’s cash flow be under the proposed of the firm? Assume that she keeps all 100 of her shares.
c. Suppose FCOJ does convert, but Melanie prefers the current all-equity Show how she could unlever her shares of stock to recreate the original Using your answer to part (c), explain why FCOJ’s choice of is irrelevant.
