APV Model with Constant Growth An unlevered firm has a value of $850 million. An
ID: 2749443 • Letter: A
Question
APV Model with Constant Growth
An unlevered firm has a value of $850 million. An otherwise identical but levered firm has $60 million in debt at a 3% interest rate. Its cost of debt is 3% and its unlevered cost of equity is 11%. After Year 1, free cash flows and tax savings are expected to grow at a constant rate of 3%. Assuming the corporate tax rate is 30%, use the compressed adjusted present value model to determine the value of the levered firm. (Hint: The interest expense at Year 1 is based on the current level of debt.) Enter your answer in millions. For example, an answer of $1.2 million should be entered as 1.2, not 1,200,000. Do not round intermediate calculations. Round your answer to two decimal places.
$________ million
Explanation / Answer
Value of the levered firm = Value of Unlevered Debt + PV of Tax shield on Debt
Value of the levered firm = Value of Unlevered Debt + Debt * tax rate
Value of the levered firm = 850 + 60*30%
Value of the levered firm = $ 868 Million