ClydeCo has an annual net operating income of $1,500,000, 99,000 shares of
stock outstanding, and no debt. ClydeCo pays federal income tax of $510,000 ($1.5 million multiplied by 34 percent), resulting in net after-tax income of $990,000 ($1.5 million less $510,000). Earnings per share are $10 ($990,000 divided by 99,000 shares). The stock sells on the market at about $80 per share (or 8 times earnings).
Donor Co tenders and acquires all the outstanding ClydeCo stock for $120 cash per share (50% more than the market price) for a total price of $11.88 million. Donor Co puts up $880,000 of its own funds and raises the remaining $11 million by issuing balloon notes by paying 12 percent interest only for 10 years, to be assumed by ClydeCo. The annual net operating income of ClydeCo after the buyout is unchanged, with the exception of debt services and taxes.
Complete the following chart showing the distribution of ownership of ClydeCo's operating income before and after the leveraged buyout, using a 34 percent corporate tax rate:
ClydeCo's original shareholders $ 990,000 -0-
Bondholders -0- $_______
DonnorCo -0- $_______
Corporate income taxes $ 510,000 $_______
Total operating income $1,500,000 $1,500,000
Who is benefitted from this transaction: the public sector or the private sector?
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