In finance as in accounting two 2 sides of the balance, Ask an Expert

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problem: In finance, as in accounting, two (2) sides of the balance sheet must be equal. To value the other side, we must value the debt & the equity, and then add them together.

	0% Debt/ 100% Equity	25% Debt/75% Equity	50% Debt/50% Equity
Cash flow to creditors:
Interest	0	$125	$250
Pretax cost of debt	0.05	0.05	0.05
Value of debt:
(Interest/kd)	-	-	-
Cash flow to shareholders:
EBIT	$1,485	$1,485	$1,485
- Interest	0	$125	$250
Pretax profit	-	-	-
Taxes (@ 34%)	-	-	-
Net income	-	-	-
+ Depreciation	$500	$500	$500
- Capital Expense	$500	$500	$500
+ change in net working capital	0	0	0
- Debt amortization	0	0	0
Residual Cash Flow (RCF)	-	-	-
Cost of equity	-	-	-
Value of equity (RCF/ke)	-	-	-
Value of equity plus value of debt	-	-	-

As the firm levers up, how does the rise in value get apportioned between the creditors & the shareholders?

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Basic Finance, Finance

Category:- Basic Finance
Reference No.:- M921355

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