Techie Technology Company (TTC) is a publicly traded technology company that specializes in the creation and maintenance of finance and accounting software programs for a variety of specialty areas. These areas include real estate management, the medical field, and education. Each software package is tailored to meet the needs of the particular industry for the client. The company is currently evaluating its current capital structure, as well as the tax implications of this structure. The company is considering numerous changes to its capital structure. These changes include issuing new stock to pay back debt, attaining new debt to buy back stock equity, and the tax impacts of each decision. Information on the different scenarios is outlined below.

TTC wants to gain a starting point as to where they are currently. As of today, the company has $3.2 billion in debt, total equity capitalization

of $51 billion, and an equity beta of 1.26. Included in TTC's assets are $14.6 billion in cash and risk free securities. The company is currently

is experiencing a risk free rate of interest at 4% and a market risk premium of 5%. Based on this information, address the questions below.

What is TTC's enterprise value?

39.6

equity capitalization + debt - cash and risk free securities = EV

What is the beta of TTC's business assets?

1.26

Beta = [E/(E+D)] x Beta equity or E/EV x beta equity

pg 429

What is the WACC of TTC?

5.47%

page 435

TTC currently has common stock with a market value of $8 billion, along with their debt of $3.2 billion. Investors are anticipating a 15% return on stock, and a 5% return on debt. If TTC were to issue $3.2 billion of new stock in order to pay off the debt, what would be the anticipated return of the stock after this transaction? What would happen to the return on stock if the company were instead to take out $1 billion in debt to repurchase shares? Assume both transaction would occur in a perfect market.

Anticipated stock return after stock issuance to pay off debt:

Ru = [E/(E+D)]*Re + [D/(E+D)*Rd

Page 504

Anticipated return after increase of debt to repurchase shares:

Re = Ru + [(D/E)*(Ru-Rd)]

Page 504

For the scenarios above, TTC wants to evaluate their WACC on a pretax and after tax basis. The company has a tax rate of 35%. What will be the WACC for each situation outlined in the previous scenario?

After stock issuance to pay off debt

Pre-Tax WACC

15

Rwacc = [E/(E+D)]*Re + [D/(E+D)*Rd

pg 532

After Tax WACC

15

Rwacc = [E/(E+D)]*Re + [D/(E+D)*Rd*(1-tax rate)

pg 532

After increase of debt to repurchase shares

Pre-Tax WACC

Rwacc = [E/(E+D)]*Re + [D/(E+D)*Rd

pg 532

After Tax WACC

Rwacc = [E/(E+D)]*Re + [D/(E+D)*Rd*(1-tax rate)

pg 532

Based on your calculations and understanding, what changes should Techie Technology Company make to its capital structure?