Question
For this question use all of Modigliani and Miller's perfect market assumptions other than the assumption of no taxes. Assume CAPM is true. In this
For this question use all of Modigliani and Miller's perfect market assumptions other than the assumption of no taxes. Assume CAPM is true. In this problem the corporate tax rate is 21%. CTC Unlimited is an all equity firm with a pre-tax expected cash flow of $85MM per year. The company has no depreciation, capital expenditures, or working capital, so the pre-tax profits are also $85MM/year. Profits after corporate taxes paid out as dividends to shareholders every year. CTCs equity beta is 1.5. Risk-free rate is 2%. The expected return of S&P 500 index is 10%. Assume CTC will operate forever.
a) What is the market value of CTCs equity?
b) CTC hires you as the new Chief Financial Officer. You tell the CEO that the firm will create value for its shareholders by issuing debt. Use one sentence to explain your reason.
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