Capstone

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Table of Contents
Executive summary3
Effects of a leveraged recapitalization4
EPS4
Financial Distress and Flexibility4
Value to shareholders6
Signalling effects6
Conclusion and Recommendations7
References8
Appendix9
(Appendix A)9
Interest Coverage Ratio Calculations (Appendix B)9
Optimal Capital Structure (Appendix B-2)9
WACC9
Exhibit 2.Earnings and per share amounts10
Exhibit 6. Key industrial financial ratios11
Exhibit 7. Capital market conditions12


Executive summary
This analysis is performed from an internal audit, analysing the pros and cons of a $3 Billion recapitalization. The Wm Wrigley Jr. Company is the biggest chewing gum manufacturer in the world and it is currently an unlevered firm. Aurora Borealis is attempting to persuade Wrigley to implement a leveraged recapitalization through a dividend or share repurchase. Wrigley has to make a decision on the $3 billion recapitalization. This report examines the effects of a $3 billion dollar debt recapitalization on value of the firm as well as clientele and signalling effects. Modigliani-Miller states a leveraged recapitalization has a positive effect on firm value due to the debt tax shield. A debt of $3bn will increase the equity value of the firm by $1.2 billion (40% x $3 billion). The introduction of debt will cause the debt to equity ratio to increase and is correlated positively to financial flexibility and financial distress. The interest coverage ratio for Wrigley’s is 1.47 indicating the ability to repay debt and interest is borderline questionable. The financial flexibility is tightened as the debt and the earnings will need to be sourced from the earnings. A debt issue may signal to the market the financial strength of the company though the risk of bankruptcy arises which is expected for an all equity company. The WACC increased by 0.01% (10.9% - 10.91%) from the recapitalisation indicating there is minimal changes to the WACC. The PPS increases from $56.73 to $61.53, indicating that . Nneither providing dividend nor repurchasing shares will affect value of shares to shareholders. However,Although repurchasing of shares will affect voting control by the Wrigley family by as this has now been increased to 50.4%. The $3 billion in debt reduces the expected EPS from $1.33 to $0.41 with repurchase, or $0.32 with dividend due to increased interest expense and the variation in the number of shares outstanding. Based upon our findings, we recommend that the Wrigley company undertake the $3 Billion debt restructuring due to negligible increase in WACC of 0.01%, increased value to shareholders price of shares increases, increase in voting percentage by Wrigley family will promote better management.


Introduction
The Analysis is performed as an internal audit by Wrigley Co. to determine if a $3 billion recapitalisation is feasible as a way to increase value of the firm. Firstly, we analyse the effects of a leveraged recapitalization. Secondly, Financial distress and flexibility are considered along with value to shareholders and EPS. Finally, we consider the signalling effects of recapitalization. Effects of a leveraged recapitalization

A leveraged recapitalization has a positive effect on firm value due to the debt tax shield proposed by Modigliani and Miller (1958). M&M (1958) states that the value of a levered firm is equal to the value of an unlevered firm plus present value of the tax shield: V_L= V_U+PV(Tax shield)

This occurs as interest expense is deductible from the firm’s taxable income. $3 billion worth of debt will increase the equity value of the firm by $1.2 billion (40% x $3 billion). Financial Distress and Flexibility

A method that is often used to help companies determine whether the company has the ability to pay the interest incurred by having debt in their capital structure is the interest coverage ratio. This is which can be calculated by the company’s EBIT (earnings before interest and...
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