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Debt Assignment | Professional Writing

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May 24th, 2020

Assume the M&M with corporate taxes. The corporate tax rate is 40%. Your firm is currently unlevered with 100% equity. As of now, the value of the firm’s equity is $400K, and the firm’s cost of capital is 10%. Assume that your firm can borrow at 4% from a bank. Suppose that you decided to lever up by reducing equity and increasing debt. As the result, your firm now has $250K in debt. Your firm plans to maintain this debt amount forever.

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1. What is the present value of the interest tax shield?Homework For You

 

2. What is the value of the firm under the new capital structure? (Hint: Use the first M&M proposition with corporate taxes.)

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