Consider a world where the M&M Corporate Taxes Capital Structure theory is true,
ID: 2653021 • Letter: C
Question
Consider a world where the M&M Corporate Taxes Capital Structure theory is true, then answer the following question. An all-equity firm currently has a market value of $622.09. The firm decides to issue debt in order to repurchases $126.48 in equity. No other changes are made to the firm. The debt will will be issued at par with an interest rate of 5.8%. The firm is in the 30% tax bracket. What is the new value of the firm. Enter your answer to the nearest $.01. Do not use the $ sign in your answer.
Explanation / Answer
As per M & M Corporate Taxes Capital Structure theory firms total market value is independent of its financial structure. It assumes that there are no taxes and no transaction cost. So even with the firm issues debt, there will be no tax benefit and hence the market value of firm does not changes. So even with issue of debt of 126.48 for repurchase of equity the market value of firm remains 622.09
So New Value of the Firm is $ 622.09