FIN 401 Chapter 16: FIN401 - Chapter 16 Textbook Notes Part 2

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greensheep522

13 Mar 2017

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For our two firms, u and l, we can now calculate the following: to simplify things, we assume depreciation is equal to zero, we also assume capital spending is zero and there are no additions to nwc. I(cid:374) this (cid:272)ase, the (cid:272)ash flo(cid:449) f(cid:396)o(cid:373) assets is si(cid:373)pl(cid:455) e(cid:395)ual to ebit ta(cid:454)es. Since the debt is perpetual, the same shield would be generated every year forever: the after-tax cash flow to l would thus be the same that u earns plus the tax shield. In other words, the npv per dollar in debt is $. 30. I(cid:374)(cid:272)e the de(cid:271)t is (cid:449)o(cid:396)th ,(cid:1004)(cid:1004)(cid:1004), the e(cid:395)uit(cid:455) (cid:373)ust (cid:271)e (cid:449)o(cid:396)th ,3(cid:1004)(cid:1004) (cid:1005),(cid:1004)(cid:1004)(cid:1004) = ,3(cid:1004)(cid:1004). For firm l, the cost of equity is thus: the weighted average cost of capital is, without debt, the wacc is 10 percent; with debt, it is 9. 6 percent, therefore, the firm is better off with debt.

Related Questions

Jet Corporation expects an EBIT of $26,500 every year forever. The company currently has no debt, and its cost of equity is 15 percent. The corporate tax rate is 35 percent.

What is the current value of the company?

Suppose the company can borrow at 10 percent. What will the value of the firm be if the company takes on debt equal to 40 percent of its unlevered value?

Suppose the company can borrow at 10 percent. What will the value of the firm be if the company takes on debt equal to 100 percent of its unlevered value?

What will the value of the firm be if the company takes on debt equal to 40 percent of its levered value?

What will the value of the firm be if the company takes on debt equal to 100 percent of its levered value?

raspberryleopard543

Letang Corporation expects an EBIT of $23,750 every year forever. The company currently has no debt, and its cost of equity is 16 percent. The company can borrow at 9.5 percent and the corporate tax rate is 35. (Do not round intermediate calculations. Round your answer to 2 decimal places (e.g., 32.16).)

Requirement 1: What is the current value of the company?

Requirement 2:

(a) What will the value of the firm be if the company takes on debt equal to 60 percent of its unlevered value?

(b) What will the value of the firm be if the company takes on debt equal to 100 percent of its unlevered value

Requirement 3:

(a) What will the value of the firm be if the company takes on debt equal to 60 percent of its levered value?

b) What will the value of the firm be if the company takes on debt equal to 100 percent of its levered value?

Companies U and L are identical in every respect except that U is unlevered while L has $11 million of 7% bonds outstanding. Assume that (1) there are no corporate or personal taxes, (2) all of the other MM assumptions are met, (3) EBIT is $2 million, and (4) the cost of equity to Company U is 10%.

a. What value would MM estimate for each firm? Enter your answers in millions. For example, an answer of $1.2 million should be entered as 1.2, not 1,200,000. Round your answers to two decimal places.

Company U	$ _____ million
Company L	$ _____ million

b. What is rs for Firm U? Round your answer to two decimal places.
_____ %

What is rs for Firm L? Do not round intermediate calculations. Round your answer to two decimal places.
_____ %

c. Find SL. Round your answer to two decimal places. Enter your answer in millions. For example, an answer of $1.2 million should be entered as 1.2, not 1,200,000.
$ _____ million

d. What is the WACC for Firm U? Round your answer to one decimal place.
_____ %

What the WACC for Firm L? Round your answer to one decimal place.
_____ %

Suppose VU = $20 million and VL = $22 million. According to MM, are these values consistent with equilibrium?
-Select- Yes or No

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FIN 401 Chapter 16: FIN401 - Chapter 16 Textbook Notes Part 2

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