Question
Consider a firm as follows: The cashflows are received at the end of each year and are perpetual. Cost of equity capital for an unlevered
Consider a firm as follows: The cashflows are received at the end of each year and are perpetual. Cost of equity capital for an unlevered firm, r0 , is 20%. The first cash-flow will be received one year from today. All calculations for valuation are done today. Firm value is defined as collective value of debt and equity.
Sales $ 500,000
Cash Costs 360,000
________
Operating Income 140,000
Tax @ 34% -47,600
________
Unlevered cash flow (UCF) $ 92,400
1. Assume that the firm has no debt. Find the firm value, using:
a) APV method $__________.
b) FTE method $__________.
c) WACC method $__________.
2. Now assume that the firm has $126,229.50 of debt. Interest rate on debt is 10%. Find the firm value using:
d) APV method $__________.
e) FTE method $__________.
f) WACC method $__________.
Objective: To illustrate that financing has no impact on firm value if there are no taxes (i.e. financing affects firm value purely because the interest payments generate tax-savings), and to further illustrate the equivalence of various valuation methods.
3. Assume the the firm has $ 100,000 of debt @ 10% and the tax rate is zero. Find the firm value using:
g) APV method $__________.
h) FTE method $__________.
i) WACC method $__________.
4. Assume the the firm has $ 200,000 of debt @10% and the tax rate is zero. Find the firm value using:
j) APV method $__________.
k) FTE method $__________.
l) WACC method $__________.
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