Schwartz Ltd and Wolfrum Ltd are identical in all aspects except their capital structures. Schwartz Ltd is 100% equity financed and has an after-tax unlevered cost of equity (ku) of 20%. Its current before interest and after tax cash earnings (Xo) are $150,000, which are expected to grow at 3% per annum forever. Wolfrum Ltd has $300,000 of debt in its capital structure and expects to maintain this level of debt permanently. Assume the corporate tax rate for both companies is 30% and the cost of debt (kd) is 7% p.a. Assume Miller and Modigliani (MM) perfect capital markets with no taxes. What is the value of Wolfrum Ltd? What is the WACC for Wolfrum Ltd?
Schwartz Ltd and Wolfrum Ltd are identical in all aspects except their capital structures. Schwartz Ltd is 100% equity financed and has an after-tax unlevered cost of equity (ku) of 20%. Its current before interest and after tax cash earnings (Xo) are $150,000, which are expected to grow at 3% per annum forever. Wolfrum Ltd has $300,000 of debt in its capital structure and expects to maintain this level of debt permanently. Assume the corporate tax rate for both companies is 30% and the cost of debt (kd) is 7% p.a. Assume Miller and Modigliani (MM) perfect capital markets with no taxes. What is the value of Wolfrum Ltd? What is the WACC for Wolfrum Ltd?
Essentials Of Investments
11th Edition
ISBN:9781260013924
Author:Bodie, Zvi, Kane, Alex, MARCUS, Alan J.
Publisher:Bodie, Zvi, Kane, Alex, MARCUS, Alan J.
Chapter1: Investments: Background And Issues
Section: Chapter Questions
Problem 1PS
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Schwartz Ltd and Wolfrum Ltd are identical in all aspects except their capital structures. Schwartz Ltd is 100% equity financed and has an after-tax unlevered
- Assume Miller and Modigliani (MM) perfect capital markets with no taxes.
- What is the value of Wolfrum Ltd?
- What is the WACC for Wolfrum Ltd?
- Now consider a Miller and Modigliani (MM) perfect capital markets with corporate taxes world:
(i) What is the value of the tax subsidy, and what is the value of Wolfrum Ltd?
- What is the value of equity and the WACC for Wolfrum Ltd?
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