Question

MacKinnon Co. currently has EBIT of $44,000 and is all equity financed. EBIT are expected to grow at a rate of 2% per year. The firm pays corporate taxes equal to 39% of taxable income. The cost of equity for this firm is 16%.

What is the market value of the firm? Enter your answer rounded to two decimal places.

  
Correct response: 191,714.29±0.01

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Suppose the firm has a value of $191,714.29 when it is all equity financed. Now assume the firm issues $85,000 of debt paying interest of 9% per year and uses the proceeds to retire equity. The debt is expected to be permanent.

What will be the value of the firm? Enter your answer rounded to two decimal places.

What will be the value of the equity after the debt issue? Enter your answer rounded to two decimal places.

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SectionAttempt 1 of 1

Answer 1

Question #1

The fiesta to do for this exercise is to calculate the equity after interest and taxes because dividends are paid to the holders of the shares on this profits (D). So:

D = Equity after interest and taxes = EBIT - tax payable = $44,000 - $44,000(0.39) = $26,840.00

Once calculation is done, the Value (Ve) is calculated from the following formula:

Ve = D(1+g)/(Ke-g) this is:

g = growth rate = 2% = 0.02

Ke = Cost of equity = 16% = 0.16

Ve = ($26,840 * (1+0.02)) / (0.16-0.02) = $195,548.57