Question

Hunter Corporation expects an EBIT of $33,000 every year forever. The company currently has no debt and its cost of equity is 11 percent. The corporate tax rate is 23 percent. a. What is the current value of the company? (Do not round intermediate calculations and round your answer to 2 decimal places, e.g., 32.16.) b-1. Suppose the company can borrow at 7 percent. What will the value of the company be if takes on debt equal to 50 percent of its unlevered value? (Do not round intermediate calculations and round your answer to 2 decimal places, e.g., 32.16.) b-2. Suppose the company can borrow at 7 percent. What will the value of the company be if takes on debt equal to 100 percent of its unlevered value? (Do not round intermediate calculations and round your answer to 2 decimal places, e.g., 32.16.) c-1. What will the value of the company be if takes on debt equal to 50 percent of its levered value? (Do not round intermediate calculations and round your answer to 2 decimal places, e.g., 32.16.) c-2. What will the value of the company be if takes on debt equal to 100 percent of its levered value? (Do not round intermediate calculations and round your answer to 2 decimal places, e.g., 32.16.)

Answer 1

Part (a)

Value = Value of the unlevered firm = V_U = EBIT x (1 - T) / Keu = 33,000 x (1 - 23%) / 11% = $ 231,000.00

Part (b) - 1

Value = Value of the levered firm = V_L = V_U + D x T = 231,000 + 231,000 x 50% x 23% = $ 257,565.00

Part (b) - 2

Value = Value of the levered firm = V_L = V_U + D x T = 231,000 + 231,000 x 100% x 23% = $ 284,130.00

Part (c) - 1

Value = Value of the levered firm = V_L = V_U + D x T = 231,000 + V_L x 50% x 23% = 231,000 + 0.1150V_L

Hence, Value = V_L = 231,000 / (1 - 0.1150) = $ 261,016.95

Part (c) - 2

Value = Value of the levered firm = V_L = V_U + D x T = 231,000 + V_L x 100% x 23% = 231,000 + 0.23V_L

Hence, Value = V_L = 231,000 / (1 - 0.23) = $ 300,000.00