3. Coping with Excess Cash

3.5. Step 4: Valuation after the Recapitalization

Remember that, as per our assumptions, the firm uses the proceeds of the recapitalization to repurchase shares at a price of 125 each (PR). Given total proceeds of 250 billion (150 excess cash plus 100 of fresh debt), the firm will be able to repurchase 2 billion shares:

 

\( N_R = \frac{\text{Total payout}}{P_R} = \frac{250}{125} \) = 2 billion shares.

 

Therefore, the number of shares outstanding will decrease from 6 to 4 billion:

 

 \( N^* = N - N_R = 6 - 2 \) = 4 billion shares.

 

The levered value of the firm [VL* = VU + DTS*] is 525 billion (see before). Consequently, after the transaction, the value of the firm's equity will drop to 425 billion:

 

\( E_L^* = V_L^* - D^* = 525 - 100 \) = 425 billion.

 

With 4 billion shares remaining, the stock price will, therefore, be 106.25:

 

\( P^* = \frac{E_L^*}{N^*} = \frac{425}{4} \) = 106.25.

 

After the transaction, the shareholders will consequently own 250 billion in cash from the share repurchase as well as 4 billion shares at a price of 106.25 each. Total shareholder wealth will, therefore, be 675 billion. The levered recapitalization, therefore, improves shareholder value by 75 billion. As in the preceding example, this increase in value is the result of the tax implications of the firm's financing policy and unrelated to the decision of how to distribute the proceeds to the shareholders.

 

In conclusion, the market value balance sheet (MVBS) after the fixed-price tender offer to repurchase 2 billion shares at a price of 125 each is:

  

Pear MVBS fixed-price tender offer