Question

The Aggie Company has EBIT of $50,000 and market value debt of $100,000 outstanding with a 9% coupon rate. The cost of equity for an all equity firm would be 14%. Aggie has a 35% corporate tax rate. Investors face a 20% tax rate on debt receipts and a 15% rate on equity. Determine the value of Aggie. $120,000 $162,948 $258,537 $263,080 $332,143

Answer 1

Ans:- Value of Unlevered firm = EBIT * (1 - Corporate tax rate ) / Cost of equity = $50,000 * (1 - 35% ) / 14% = $232,142.86.

Now, the Value of Levered Firm

= Value of Unlevered Firm + Value of Debt *[ 1 - {(1-corporate tax)*(1- Tax on equity) / (1- Tax on debt)} ]

= $232,142.86 + $100,000 *[ 1-{(1-35%)*(1-15%) / (1-20%)}] = $263,080.36. = $263,080. (approx)

Therefore, the value of the firm is $263,080. Option (d) is the right answer.

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