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BOOK VALUE:
Net working capital $20 Debt $40
Long term assets 80 Equity 60

MARKET VALUE:
Net working capital $20 Debt $40
Long term assets 140 Equity 120

Suppose that MM's theory holds except for taxes. There is no growth and $40 of debt is expected to be permanent. Suppose 35% corporate tax.

a) How much of firm's value is accounted for by debt generated tax shield?

b) Determine UF's after tax WACC if rd=0.8% and re=15%?

c) Now assume that government passes the law which eliminates deductibility of interest for tax purposes after grace period of 5 years. Determine the new value of firm, all things equal? Suppose a 8% borrowing rate.

Business Management, Management Studies

  • Category:- Business Management
  • Reference No.:- M934954

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