Q1. What is meant by “Active Investing” Strategy?

The investors that are highly involved. In contrast to passive investors who invest in a stock
when they believe in its potential for long-term appreciation, active investors will typically look
at the price movements of their stocks many times a day. Active investors primarily seek short-
term profits by purchasing shares prior to a profitable action like capital restructuring. The active
investing strategies for Dobrynin’s is to focuses on distressed companies, control transactions,
and debt-recapitalizations. For distressed companies, Aurora could determine a better capital
structure (mostly an optimal) that would maximize both firm and shareholder value.

Q3 What is the nature of Wrigley’s business ? comments on the financial health and
standing of the company supports by evidences?

Wrigley was the world’s largest manufacturer and distributor of chewing gum. The firm’s
industry, branded consumer foods and candy, was intensely competitive and was dominated by a
few large player. They that is Cadbury Schweppes plc, Hershey Foods Corp, Kraft Foods Inc,
Tootsie Roll Industries, Inc, and the Wrigley itself. A company like Wrigley has a leading market
share, low-technology business, and yet has no debt. A leverage recapitalization through a
dividend or a major share repurchase would create significant new value. That said, the two main
factors that lead to Wrigley being an ideal restructuring candidate are:

(1) Wrigley’s capital structure – 0% debt.

(2) Excess cash.
Revenues had grown from 1999 to 2001 at an annual compound rate of 10% from $ 1, 33 to $ 1,
and 61 on net EPS of common stock and earnings grown 9 % year from $ 308,183 to $ 362,986
on net earnings. With a market value of $13.1 billion, and the current capital-market conditions,
Wrigley could borrow $3 billion at a credit rating between BB and B, to yield 13%.

Wrigley has been conservatively financed. At the end of 2001, it had total assets of
$ 1,765,648.Wrigley’s stock price had significantly outperformed the S & P 500 Composite Index
and was running slightly ahead of its industry index.

Q 4.What would a major recapitalization of Wrigley signal to its investors?

Investors see an act of repurchasing shares as a signal to the market that Wrigley considers its
shares to be undervalued. This optimistic perspective towards Wrigley’s stock in the market would
lead to more investors being attracted to the company, causing the price to increase further. Also
the substantial increase in debt may signal management operating efficiently and its confidence in
the operational profitability’s ability to cover debt service payments.
Q5.Show the effect of issuing $3billion debt and using the proceeds to pay dividend or
repurchase shares on the balance sheet (assets, liabilities, and equity) of the Wrigley
Company? On the number of shares outstanding market value of equity and book value of
equity?

Wrigley’s outstanding shares

Issuing 3 billion new debts to pay dividend to shareholder, number of outstanding shares will
remain same or no effect. Share repurchases leads to Wrigley Company purchasing its own
shares. In case Wrigley Company decides to purchase its own shares with a total amount of $3
billion at a price of $56.36 it will repurchase 53,229 shares. This in turn causes the total number
of outstanding shares to decrease to 183.677 million.

IMPACT ON SHARE VALUE

Before After Recapitalization After Recapitalization-

Recapitalization - dividend repurchase

#of 232.441 million 232.441 million 183.677 million

outstanding
shares

Wrigley’s book value of equity and market value of equity

Book value: In the book value balance sheet, assets are increased by $3 billion, to a total asset
this growth accounts for an increase in working capital of $3 billion (cash obtained from debt).

In the market value balance sheet, total assets increase in working capital of $3 billion,
the present value of the debt tax shield at a 40% marginal tax rate, and a decrease caused by the
total cost of financial distress. The assets portion of this balance sheet, as a result, increases by
$8.04 billion. The difference between the present value of the debt tax shield and the cost of
financial distress is added to the owners’ equity. The numbers of shares remain constant;
however, the equity to capital ratio changes to 81% from 99%.

Effect of repurchase on balance sheet

A leverage recapitalization of $3 billion impacts Wrigley’s balance sheet. An addition of $3

billion directly causes book value of assets and total capital to increase by $3 billion. The market
value balance sheet also increases its figure by more than $3 billion. The market value balance
sheet comprises of a debt-tax shield and a financial distress component.
On the contrary, long-term debt also increases by $3 billion. While the book value per share
stays the same as before recapitalizing, the book value of equity over the total capital reduces to
29% from 89%. The reason for this is that there has been no change to the common equity
portion of the balance sheet, but the debt has significantly increased from 0 to $3 billion, causing
the total capital to increase.

Q6.Discuss the advantages of dividends vs share repurchase?

Advantages of dividends vs Share Repurchase

Paying out dividend: A recapitalization based on a dividend will have no impact whatsoever
on outstanding shares and will furthermore give investors cash up front. On the contrary, paying
out dividend might lead to a significant decrease in share price. Dividends are also taxed higher
than capital gains which may cause investors to incline more towards a repurchase. The benefit
of paying out dividend are as follows:

 No impact on outstanding shares: Unlike repurchasing shares, an issuance of

dividends maintains the ownership proportion of Wrigley’s investors and Wrigley
Family. Thus, outstanding shares will still remain to be 232,441, allowing the
Wrigley Family to remain with its 21% and 58% holding of common and Class B,
respectively.
 Reward investors with cash: A dividend of $12.91 will be given per share,
rewarding the investors for Wrigley’s performance.
 Positive Signaling: Investors also see dividend payments as a sign of a
company’s strength and a sign that management has positive expectations for
future earnings. A stock that is perceived as optimistic in the market might cause
an increase in demand, and in turn, an increase in Wrigley’s stock price.
Repurchasing Shares: Share repurchasing decreases the total number of outstanding shares,
which in turn increases the share price. Additionally, the contraction in outstanding shares might
amend the influence of the controlling entities. The benefits of repurchasing shares are as
follows:

 Decrease in outstanding shares: $3 billion of debt is used to repurchase 53,014 shares.

The decrease in shares outstanding leads to an appreciation of stock price by $0.22.
 Positive Signaling: Investors also see an act of repurchasing shares as a signal to the
market that Wrigley considers its shares to be undervalued. This optimistic perspective
towards Wrigley’s stock in the market would lead to more investors being attracted to the
company, causing the price to increase further.
 Tax benefit: As taxes on capital gains are as low as 15% compared to taxes on dividends
of 33% - 35%.
Q9.What will be the effect of the recapitalization on WRIGLEY’S EPS from issuing $3billion dent?

Earnings per share

Assuming the 2001 operating cash flow of $513,356 is constant; the additional $3 billion in debt
will reduce the EPS due to the payment of interest expense If the number of outstanding shares is
reduced by repurchase shares, then the EPS will increase if EAT remains unchanged. In fact, The
EAT is reduced because interest expenses. So by issuing more debt the EAT diminishes, then
EPS will drop dramatically. Dividend affect next year’s earnings as they are taken out of the
EAT. However, the EPS of share repurchase is higher than pay dividends.

Q8.Calculate Wrigley‘s WACC pre and post recapitalization? Is the change in wacc a sufficient
motive for recapitalization?

the following are pre recapitalization and after recapitalization WACC

IMPACT OF RECAPITALIZATION ON COST OF CAPITAL

Before Recapitalization After Recapitalization

Weight of Equity 100% 77.22%

Weight of Debt 0 22.78%

Pre-tax Cost of Debt 13% 13%

Beta .75 .869

Cost of Equity 10.9% 11.74%

WACC 10.9% 10.9%

B = .75 (1+ ((1-40%)*(3 B/11.3 B)) = .869

L
R = 5.65% + .75 (7%) = 10.9%
S
WACC = (10.9%)
Before

WACC = 22.78% (1-40%) 13% + 77.22% (11.74%) = 10.9%

After
R = 5.65%, MRP = 7% R = 13%
RF d

NO ,the change in wacc is not the sufficient motive for recapitalization

Q10 Should the board of directors approve of the recapitalization? explain and conclude
with your calculations?

The board of directors should approve the recapitalization because Aurora Borealis should advise
the Wrigley Company to include debt in its capital structure. While a 0% debt is remarkable,
current market conditions provide an opportunity to improve the company’s capital structure. An
inclusion of debt increases likewise, an optimal debt to equity ratio would lead to an optimal
Weighted Average Cost of Capital and as a result a maximized firm value. Despite the decrease
in value after repurchasing shares, Wrigley Company would signal positive messages to the
market that attest to the stock’s undervalued price. Lastly, with the debt recapitalization, the
Wrigley family is also able to regain and maintain its voting control within the firm. In
conclusion, we believe a leverage recapitalization would benefit stockholders, the Wrigley
Family, and the Wrigley Company both financially and personal.