Debt Policy and Value

EMBA 8500

CASE # 31

12/2/2012

#1 Book assess of debt Book honour of equity commercialize value of debt turn backet value of equity Pretax approach of debt After Tax cost of debt rd Market value weights of: Wd Debt We Equity bL Levered beta Rf danger-free Rate Market Premium RM Ke Cost of equity WACC EBIT - Taxes (34%) EBIAT + derogation - Capital expense Change in Net working(a) Capital Free Cash Flow Value of Assets ( FCF/WACC)

0% Debt 100% Equity $ $ 20,000 $ $ 20,000 7.0% 4.62% 0 1 0.8 7% 8.6% 13.88% 13.88% 4,206.00 1,430.04 2,775.96 1,000.00 (1,000.00) 0 2,775.96 19,999.71

25% Debt 75% Equity $ 5,000 $ 15,000 $ 5,000 $ 16,700 7.0% 4.62%

50% Debt 1) As the secure becomes more leveraged the WACC will change because debtholders have a 50% Equity fixed claim on cash which increases the risk for stockholders. This layabout cause the stock to go up $ 10,000 and firms can reduce the taxes paid, thereby freeing up more cash. Debt alike increases the risk $ 10,000 of bankruptcy. $ 10,000 $ 13,400 (Debt * Tax Rate) + BV Equity 7.0% 4.62% (Pretax * (1-Tax Rate)) MV Debt / (MV Debt + MV Equity) MV Equity / (MV Debt + MV Equity) 0.



8 is the b u b L = b u [1+(1-T) * D/E HAMADA Ke = Rf + (b L * RM) CAPM WACC = (Wd * rd) + (We * re) EBIT * Tax Rate EBIT - Tax amount

$ 34% $ $ $ $ $ $

23.0% 42.7% 77.0% 57.3% 0.96 1.19 7% 7% 8.6% 8.6% 15.24% 17.27% 12.79% 11.86% $ 4,206.00 $ 4,206.00 $ 1,430.04 $ 1,430.04 $ 2,775.96 $ 2,775.96 $ 1,000.00 $ 1,000.00 $ (1,000.00) $ (1,000.00) 0 0 $ 2,775.96 $ 2,775.96 $ 21,699.69 $ 23,399.66 Added Tax Shield increase value VL = VU + TD

D/E Ratio 29.94%

74.63%

V = FCF/WACC

M3DISK - Maryann Albert, Mike Arendosh, Mark Jarboe, Dan Pool, Ivo Hegelbach, Sean McPherson, Krista Massell

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