International Associates (IA) is about to commence operations as an international trading company. The firm will have
Question:
a. According to MM, what will be the value of IA if it uses no debt? If it uses $6 million of 6% (debt?
b. What are the values of the VACC and r, at debt levels of D = $0, D = $6 million, and D = $10 million? What effect does leverage have on firm value? ‘Why?
c. Assume the initial facts of the problem (rd = 6%, EBIT = $1.6 million, rsU 11%), but now assume that a 40% federal-plus-state corporate tax rate exists. Use the MM formulas to find the new market values for IA with zero debt and with $6 million of debt.
d. What are the values of the WACC and r at debt levels of D = $0, D = $6 million, and D = $10 million if we assume a 40% corporate tax rate? Plot the relationship between the value of the firm and the debt ratio as well as that between capital costs and the debt ratio.
e. What is the maximum dollar amount of debt financing that can be used? What is the value of the firm at this debt level? What is the cost of this debt?
f. How would each of the following factors tend to change die values you plotted in your graph?
(1) The interest rate on debt increases as the debt ratio rises.
(2) At higher levels of debt, the probability of financial distress rises.
Fantastic news! We've Found the answer you've been seeking!
Step by Step Answer:
Related Book For
Financial management theory and practice
ISBN: 978-1439078099
13th edition
Authors: Eugene F. Brigham and Michael C. Ehrhardt
Question Posted: