Question

Calvert Corporation expects an EBIT of $23,900 every year forever. The company currently has no debt, and its cost of equity is 14.6 percent. The company can borrow at 9.4 percent and the corporate tax rate is 23 percent.

a.	What is the current value of the company? (Do not round intermediate calculations and round your answers to 2 decimal places, e.g., 32.16.)
b-1.	What will the value of the firm be if the company takes on debt equal to 50 percent of its unlevered value? (Do not round intermediate calculations and round your answers to 2 decimal places, e.g., 32.16.)
b-2.	What will the value of the firm be if the company takes on debt equal to 100 percent of its unlevered value? (Do not round intermediate calculations and round your answers to 2 decimal places, e.g., 32.16.)
c-1.	What will the value of the firm be if the company takes on debt equal to 50 percent of its levered value? (Do not round intermediate calculations and round your answers to 2 decimal places, e.g., 32.16.)
c-2.	What will the value of the firm be if the company takes on debt equal to 100 percent of its levered value? (Do not round intermediate calculations and round your answers to 2 decimal places, e.g., 32.16.)

Answer 1

a. Current value of the company =EBIT*(1-Tax Rate)/Cost of equity =23900*(1-23%)/14.6% =126047.9452 or 126047.95

b-1. Debt =50%*Value Unlevered
Value of Levered firm =Value of Firm Unlevered+50%*Value Unlevered*Tax Rate =126047.9452+50%*126047.9452*23% =
140543.46

b-2. Debt =100%*Value Unlevered
Value of Levered firm =Value of Firm Unlevered+50%*Value Unlevered*Tax Rate =126047.9452+100%*126047.9452*23% =
155038.97

c-1.Debt =50%*Value Levered
Value of Levered firm =Value of Firm Unlevered+50%*Value Levered*Tax Rate
VL=Vu+50%*VL*23%
VL =VU/(1-50%*23%) =126047.9452/(1-50%*23%)=142427.06

c-2. Debt =100%*Value Levered
Value of Levered firm =Value of Firm Unlevered+50%*Value Levered*Tax Rate
VL=Vu+100%*VL*23%
VL =VU/(1-100%*23%) =126047.9452/(1-100%*23%)=163698.63