AFM274 Chapter Notes - Chapter 21: Tax Shield, Cash Flow, Full-Time Equivalent

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lemonbeetle804

13 Aug 2018

School

University of Waterloo

Department

Accounting & Financial Management

Course

AFM274

Professor

Tu Nguyen

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Document Summary

After-tax wacc: r w a c c = e/(e+d) * r e + d/(e+d) * r d * (1 - t c) Debt capacity: d t = d * v t. Adjusted present value (apv): apv = v l = v u + pv(interest tax shield) Target leverage ratio: when a firm adjusts its debt proportionally to the project"s value or its cash flows. Interest paid in year t = r d * d t - 1. Flow-to-equity (fte): the explicit calculation of the free cash flow available to equity holders taking into account all payments to and from debt holders. Free cash flow to equity (fcfe): the free cash flow that remains after adjusting for interest payments, debt issuance, and debt repayment. Fcfe = fcf - (1 t c) * (interest payments) + (net borrowing)

Related Questions

Based on the attached spreadsheet (loosely based on the APV example in class), compute the following with a 34% tax rate:

(a) Firm value according to APV where the present value of the interest tax shield is computed using Pre-tax WACC, not the cost of debt. (10 points)

(b) Firm value according to CCF. (10 points)

The APV and CCF valuations will be identical. Note that depreciation, CAPEX, and change in NWC are all zero.

Interest Paid		$21.60	$19.10	$17.80	$16.70	$15.80

Free Cash Flows

EBIT		$22.70	$29.80	$37.10	$40.10	$42.10
-Taxes		$7.72	$10.13	$12.61	$13.63	$14.31	34% tax r
= Unlevered Free Cash Flow		$14.98	$19.67	$24.49	$26.47	$27.79

Unlevered Cost of Equity	13.50%	Pre-tax WACC or Return on Assets
Cost of Equity	24.00%
Cost of Debt	9.50%
Terminal Growth Rate	0.00%

pearcicada933

Propel Corporation plans to make a $ 49.5 millionâ investment, initially funded completely with debt. The free cash flows of the investment andâ Propel's incremental debt from the project are shownâ here:â

Year	0	1	2	3
Free Cash flows ($ million)	-49.5	39.6	21.8	24.8
Debt ($ million)	49.5	31.6	13.9	0.0

Propel's incremental debt for the project will be paid off according to the predetermined schedule shown.â Propel's debt cost of capital is 7.4 %, and its tax rate is 35 %. Propel also estimates an unlevered cost of capital for the project of 12.6 %.

a. Use the APV method to determine the levered value of the project at each date and its initial NPV.

b. Calculate the WACC for this project at each date. How does the WACC change overâ time? Why?

c. Compute theâ project's NPV using the WACC method.

d. Compute the equity cost of capital for this project at each date. How does the equity cost of capital change overâ time? Why?

e. Compute theâ project's equity value using the FTE method. How does the initial equity value compare with the NPV calculated in parts (aâ) and â(câ)?

Hintâ: Make sure to round all intermediate calculations to at least four decimal places.

copperscorpion85

The magnitude of a company's value-to-book ratio depends heavily on its

A. expected book equity growth B. Profit margins C. sales turnover D. none of the above

Companies can grow their equity base by (chose all that apply)

A. taking out new long term debt B. issuing new stock C. taking on additional short term debt D. reinvesting profits

Valuation under the Discounted Cash Flow method involves

A. Forecasting free cash flows available to equity holders over a finite forecast horizon

B. Forecasting free cash flows beyond the terminal year based on some simplified assumptions

C. Discounting free cash flows to equity holders at the cost of equity

D. All of the above

Which of the following are advantages of defining values in terms of ROE's (choose all that apply)

A. It uses the same key measures of performance that are decomposed in a standard financial analysis

B. ROE's are much easier to calculate than other performance measurements

C. It enhances the analyst's ability to evaluate the reasonableness of their forecasts by benchmarking them with REO's of other companies in the industry

D. All of the above

AFM274 Chapter Notes - Chapter 21: Tax Shield, Cash Flow, Full-Time Equivalent

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