Part 1Hawar International is a shipping firm with a current share price of $ 5.32$5.32 and 9.99.9 million shares outstanding. Suppose that Hawar announces plans to lower its corporate taxes by borrowing $ 20.1$20.1 million and repurchasing shares, that Hawar pays a corporate tax rate of 30 %30%, and that shareholders expect the change in debt to be permanent.a. If the only imperfection is corporate taxes, what will the share price be after this announcement?b. Suppose the only imperfections are corporate taxes and financial distress costs. If the share price rises to $ 5.57$5.57 after this announcement, what is the PV of financial distress costs Hawar will incur as the result of this new debt? Part 1a. If the only imperfection is corporate taxes, what will the share price be after this announcement?The share price after this announcement will be $[input]enter your response here per share. (Round to the nearest cent.)

Question

Part 1Hawar International is a shipping firm with a current share price of $ 5.32$5.32 and 9.99.9 million shares outstanding. Suppose that Hawar announces plans to lower its corporate taxes by borrowing $ 20.1$20.1 million and repurchasing​ shares, that Hawar pays a corporate tax rate of 30 %30%​, and that shareholders expect the change in debt to be permanent.a. If the only imperfection is corporate​ taxes, what will the share price be after this​ announcement?b. Suppose the only imperfections are corporate taxes and financial distress costs. If the share price rises to $ 5.57$5.57 after this​ announcement, what is the PV of financial distress costs Hawar will incur as the result of this new​ debt? Part 1a. If the only imperfection is corporate​ taxes, what will the share price be after this​ announcement?The share price after this announcement will be ​$[input]enter your response here per share. ​(Round to the nearest​ cent.)

BlackTom AI · Accepted Answer

The tax shield from permanent debt equals the corporate tax rate times the debt: Tax shield = Tc × D = 0.30 × $20.1M = $6.03M.

1) Relevant concepts
- Modigliani–Miller with corporate taxes: issuing debt creates a PV of tax shields that increases firm value by Tc × D.
- When debt is used to repurchase shares, the new share price must reflect the higher total firm value and the reduced number of shares outstanding.

2) Step-by-step reasoning and calculations
- Initial equity value (market capitalization) = current price × shares = $5.32 × 9.9M = $52.668M.
- PV of tax shield = 0.30 × $20.1M = $6.03M.
- New total firm value after the tax shield = initial equity value + tax shield = $52.668M + $6.03M = $58.698M.
- After issuing debt D = $20.1M, equity value becomes: Equity_new = Total value − Debt = $58.698M − $20.1M = $38.598M.
- Let P1 be the new share price. Repurchase uses the $20.1M to buy back shares at price P1, so shares repurchased = $20.1M / P1. Remaining shares = 9.9M − 20.1M/P1.
- Equity value also equals P1 × remaining shares = P1(9.9M − 20.1M/P1) = 9.9M·P1 − 20.1M.
- Set this equal to Equity_new: 9.9P1 − 20.1 = 38.598 ⇒ 9.9P1 = 58.698 ⇒ P1 = 58.698 / 9.9 = $5.93 (rounded to nearest cent).

3) Why this is correct
- The increase in firm value comes solely from the tax shield; the algebra accounts for the repurchase effect (debt buys back shares at the new price). An equivalent shortcut: per-share increase = tax shield / initial shares = $6.03M / 9.9M = $0.61, so new price = $5.32 + $0.61 = $5.93.

4) Why other outcomes would be incorrect
- Ignoring the tax shield or mishandling the repurchase (e.g., subtracting debt twice or not adjusting share count) would produce incorrect prices. The alternative scenario with financial distress costs (mentioned in part b) would lower the actual price increase below $5.93.

Conclusion: The share price after the announcement (with only corporate taxes as the imperfection) is $5.93 per share, which matches the provided answer.

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