PROBLEM 2 (20 points) XYZ Company expected to have free cash flow in the coming year of $15 million, and this free cash flow is expected to grow at a rate of 4% per year thereafter. XYZ Company has an equity cost of capital of 14%, a debt cost of capital of 6%, and it is in the 35% corporate tax bracket. XYZ Company has 15 million shares outstanding. Suppose management plans to borrow debt so that it maintains a debt to equity ratio of 1 on a permanent basis through a leveraged recapitalization in which they would use the borrowed funds to repurchase outstanding shares. Please round off answers to 2 decimal places. 1. What is the value of XYZ Company's interest tax shield? A. Compute pre-tax WACC for XYZ. (2 points) B. Compute the unlevered value of XYZ. (2 points) C. Compute after-tax WACC for XYZ. (2 points) D. Compute the levered value of XYZ. (2 points) E. Compute the value of interest tax shield. (2 points) 2. Calculate XYZ's share price following the announcement of the recapitalization plan. (5 points) 3. Discuss the benefits of having debt in the XYZ's capital structure? How much debt should XYZ have in its capital structure? (5 points) Edit View BCTBTb Format Tools Table * B D) B I U 12pt 2 T? PROBLEM 2 (20 points) XYZ Company expected to have free cash flow in the coming year of $15 million, and this free cash flow is expected to grow at a rate of 4% per year thereafter. XYZ Company has an equity cost of capital of 14%, a debt cost of capital of 6%, and it is in the 35% corporate tax bracket. XYZ Company has 15 million shares outstanding. Suppose management plans to borrow debt so that it maintains a debt to equity ratio of 1 on a permanent basis through a leveraged recapitalization in which they would use the borrowed funds to repurchase outstanding shares. Please round off answers to 2 decimal places. 1. What is the value of XYZ Company's interest tax shield? A. Compute pre-tax WACC for XYZ. (2 points) B. Compute the unlevered value of XYZ. (2 points) C. Compute after-tax WACC for XYZ. (2 points) D. Compute the levered value of XYZ. (2 points) E. Compute the value of interest tax shield. (2 points) 2. Calculate XYZ's share price following the announcement of the recapitalization plan. (5 points) 3. Discuss the benefits of having debt in the XYZ's capital structure? How much debt should XYZ have in its capital structure? (5 points) Edit View BCTBTb Format Tools Table * B D) B I U 12pt 2 T
