DFS Corporation is currently an all-equity firm, with assets with a market value of $100 million and 4 million shares outstanding. DFS is considering a leveraged recapitalization to boost its share price. The firm plans to raise a fixed amount of permanent debt (i.e., the outstanding principal will remain constant) and use the proceeds to repurchase shares. DFS pays a 37% corporate tax rate, so one motivation for taking on the debt is to reduce the firm's tax liability. However, the upfront investment banking fees associated with the recapitalization will be 3% of the amount of debt raised. Adding leverage will also create the possibility of future financial distress or agency costs; shown in the table here, are DFS's estimates for different levels of debt a. Based on this information, which level of debt is the best choice for DFS? b. Estimate the stock price once this transaction is announced. a. Based on this information, which level of debt shown above is the best choice for DFS? The level of debt that is the best choice for DFS is 5 million. (Round to the nearest integer.) Data Table x 40 50 (Click on the following icon 9 in order to copy its contents into a spreadsheet.) Debt amount ($ million) 0 10 20 30 Present value of expected distress and agency costs ($ million) 0.0 -0.76 -2.45 -3.56 - 8.84 - 12.27 Print Done DFS Corporation is currently an all-equity firm, with assets with a market value of $100 million and 4 million shares outstanding. DFS is considering a leveraged recapitalization to boost its share price. The firm plans to raise a fixed amount of permanent debt (i.e., the outstanding principal will remain constant) and use the proceeds to repurchase shares. DFS pays a 37% corporate tax rate, so one motivation for taking on the debt is to reduce the firm's tax liability. However, the upfront investment banking fees associated with the recapitalization will be 3% of the amount of debt raised. Adding leverage will also create the possibility of future financial distress or agency costs; shown in the table here, are DFS's estimates for different levels of debt a. Based on this information, which level of debt is the best choice for DFS? b. Estimate the stock price once this transaction is announced. a. Based on this information, which level of debt shown above is the best choice for DFS? The level of debt that is the best choice for DFS is 5 million. (Round to the nearest integer.) Data Table x 40 50 (Click on the following icon 9 in order to copy its contents into a spreadsheet.) Debt amount ($ million) 0 10 20 30 Present value of expected distress and agency costs ($ million) 0.0 -0.76 -2.45 -3.56 - 8.84 - 12.27 Print Done
