Homework Answers
No of outstanding shares = 180,000
Market Price = $50.50 per share
Value of un-levered firm = 180,000 * 50.50 = $9,090,000
We can solve this problem using the Modigliani-Miller Theorem (M&M):
This theory says that the value of a levered firm is equal to the value of an identical un-levered firm plus the tax benefit it derives from the presence of debt in its capital structure.
Here Tax benefit = Value of Debt * Tax rate
= $3,760,000 * 25%
= $940,000
Therefore, Value of the firm = Value of un-levered firm + Tax benefit
=$9,090,000 + $940,000
= $10,030,000.
Value of levered equity = Value of firm - Value of Debt
= $10,030,000 - $3,760,000
= $ 6,270,000
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