Reference no: EM131760445
1) Here are book- and market-value balance sheets of the United Frypan Company:
Book-Value Balance Sheet
Net working capital $ 80 Debt $55
Long-term assets 20 Equity 45
$100 $100
Market-Value Balance Sheet
Net working capital $ 80 Debt $ 55
Long-term assets 145 Equity 170
$ 225 $ 225
Assume that MM's theory holds except for taxes. There is no growth, and the $55 of debt is expected to be permanent. Assume a 37% corporate tax rate.
a. How much of the firm's market value is accounted for by the debt-generated tax shield?
PV tax shield ___________
b. What is United Frypan's after-tax WACC if rDebt = 6.0% and rEquity = 17.0%? (Do not round intermediate calculations. Enter your answer as a percent rounded to 2 decimal places.)
WACC _________%
c. Now suppose that Congress passes a law that eliminates the deductibility of interest for tax purposes. What will be the new value of the firm, other things equal? Assume a borrowing rate of 6.0%. (Do not round intermediate calculations. Round your answer to 2 decimal places.)
New Value of the Firm ___________
2) River Cruises is all-equity-financed.
Current Data Number of shares 100,000
Price per share $ 10
Market value of shares $ 1,000,000
State of the Economy
Slump Normal Boom
Profits before interest $ 71,500 118,000 179,500
Suppose it now issues $250,000 of debt at an interest rate of 10% and uses the proceeds to repurchase 25,000 shares. Assume that the firm pays no taxes and that debt finance has no impact on firm value. Refer to the above table to compute the missing data. (Do not round intermediate calculations. Round "Earnings per share" to 3 decimal places. Enter "Return on shares" as a percent rounded to 2 decimal places.)
Outcomes
Number of Shares __________
Price per Share __________
Market Value of Shares __________
Market Value of Debt __________
State of the Economy
Slump Normal Boom
Profits Before Interest 71,500 118,000 179,500
Interest __________ __________ __________
Equity Earnings __________ __________ __________
Earnings Per Share __________ __________ __________
Return on Shares __________% __________% __________%