Question

Tool Manufacturing has an expected EBIT of $82,000 in perpetuity and a tax rate of 35 percent. The firm has $165,000 in outstanding debt at an interest rate of 8.5 percent, and its unlevered cost of capital is 15 percent.

What is the value of the firm according to MM Proposition I with taxes? (Do not round intermediate calculations and round your answer to 2 decimal places, e.g., 32.16.)

Value of the firm           $

Answer 1

EBIT	=	$                                           82,000
Tax Rate (t)	=	35%
Outstanding Debt (D)	=	$                                       1,65,000
Interest rate	=	9%
Unlevered Cost of Capital (RU)	=	15%
To find the value of levered firm (VL) first we need to find the value of unlevered firm (VU):
VU	=	EBIT (1-t)/ RU
VU	=	$82,000 (1-0.35) / 0.15
VU	=	$                                 3,55,333.33
Now we can find the value of levered firm:
VL	=	VU + (t X D)
VL	=	$3,55,333 + (0.35 X $1,65,000)
VL	=	$                                 4,13,083.33
Value of the firm	=	$                                 4,13,083.33