Janet Wu is treasurer of Wilson Paper Company, a manufacturer of paper products for the office and school markets. Wilson Paper is selling one of its divisions for $70 million cash. Wu is considering whether to recommend a special dividend of $70 million or a repurchase of 2 million shares of Wilson common stock in the open market. She is reviewing some possible effects of the buyback with the company’s financial analyst. Wilson has a long-term record of gradually increasing earnings and dividends. Wilson’s board has also approved capital spending of $15 million to be entirely funded out of this year’s earnings.
|
Book value of equity |
$750 million ($30 a share) |
|
Shares outstanding |
25 million |
|
12-month trading range |
$25–$35 |
|
Current share price |
$35 |
|
After-tax cost of borrowing |
7% |
|
Estimated full year earnings |
$25 million |
|
Last year’s dividends |
$9 million |
|
Target debt/equity (market value) |
35/65 |
In investors’ minds, Wilson’s share buyback could be a signal that the company:
A. is decreasing its financial leverage.
B. views its shares as undervalued in the marketplace.
C. has more investment opportunities than it could fund internally.