Question
more explanation for question B) Value Co (Value) operates under the assumptions of Modigliani and Miller. Value currently has no debt, and its earnings are
more explanation for question B)
Value Co (Value) operates under the assumptions of Modigliani and Miller. Value currently has no debt, and its earnings are expected be $200,000 and can range from a minimum of $100,000 to a maximum of $500,000. Value has 100,000 shares outstanding and its shares trade at $15 per share. (a) Howard is Values CFO and Howard argues that Value would be better off by borrowing $900,000 at 10% interest to repurchase Values shares at $15. If Value goes with Howards proposal, what is the change in Values ROE when Values earnings before interest is $100,000, $200,000, and $500,000 respectively? (b) Anne owns 10,000 Value shares. Anne argues that it is unnecessary for Value to borrow money to repurchase debt since she can borrow as well, at the same interest rate. If Anne wants to have the same ROE outcomes as Howards proposal, how much will Anne need to borrow, and what is the total number of shares that Anne will own?
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