Question
1. Futons for Crutons is a furniture company that focuses on providing affordable furniture for the elderly. It is at its target debt ratio of
1. Futons for Crutons is a furniture company that focuses on providing affordable furniture for the elderly. It is at its target debt ratio of 50% and can borrow in todays market at 6%. It currently estimates that if all equity financed its cost of equity would be 10 %. If one assumes that the company will earn in perpetuity pre-tax free cash flows of $200,000 per year and the company is taxed at 36% what is the company worth? Suppose as part of a Social Security reform plan the government allows companies that serve the elderly to borrow up to $200,000 at a government subsidized rate of 3% for 5 years. What effect would this program have on Futons for Crutons market value assuming that it continues to maintain a 50% debt to asset ratio (so it simply substitutes government borrowing for some of its debt)?
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