Question
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MMII and the effect of taxes Debt financing has one important advantage that the early MM propositions ignored: interest on debt is tax deductible. The amount that taxes are reduced because of the use of debt is called the interest tax shield. Consider this case: suppose Stoler Food Co. had an unlevered value of $95 million. Stoler's marginal tax rate is 37%, and it has $45 million in debt. According to MM's proposition with taxes, what is the levered value of the company? O $50.00 million O $140.00 million O $78.35 million O $111.65 million Adding to the discussion regarding the effect of taxes on t from an investor's perspective. His focus was on the effect of pers diminish the benefit of debt financing. He represented the value of a levered he firm's value, Miller further discussed the effect of taxes onal taxes and to what extent personal taxes can fit of debt financing. He represented the value of a levered firm as: According to Miller's theory on the impact of personal taxes, which of the follo wing statements is true? antage over equity financing because it provides interest deductibility O Debt finandng has a disadv O Incom e from a stock can be deferred until an investor deades to realize capital gains from the stock. This favors equity financing.
Explanation / Answer
Following statement is true:
Income from a stock can be deferred until an investor decides to realise capital gains from the stock. This favours equity financing
Value of Unlevered Firm = Vul+Dt Vul = Value of unlevered firm Dt = Debt *Tax rate Vl = 95+45*0.37 $ 111.65