The JuneBug (JB) Corporation has a perpetual EBIT of $450,000. The rm is entirel

Question

The JuneBug (JB) Corporation has a perpetual EBIT of $450,000. The rm is entirely equity nanced. The beta of the rm's stock is 1.24. You may assume that the risk free interest rate is 2% and that the market risk premium is 4.5%. The company's tax rate is 39%.
(a) What is the value of this unlevered company?
(b) Now suppose that the corporation wants to increase its market value to $5,000,000 by issuing perpetual bonds. Calculate the total market value of bonds that the JB Co. should issue to accomplish this goal.

(c) Assume the corporation issues $3,000,000 in perpetual debt (i.e. ignore your answer to part (b)). If the corporation's marginal tax rate decreases by 10%, what would you expect the new rm value to be?

Explanation / Answer

a)Value of equity = 2%+ 1.24*4.5%= 7.58%

Value of unlevered firm = 450000*(1-39%)/7.58%=$3,621,372.03

b) Value of levered firm = value of unlevered firm + Debt*tax

5,000,000 = 3621372.03 + Debt*39%

Market value of debt =$3,534,943.51

c) New Value of firm = 3621372.03+ 3000000*(1-29%)=$5751372.03

Related Questions

Navigate

• Browse (All)
• Browse T
• Subjects

Integrity-first tutoring: explanations and feedback only — we do not complete graded work. Learn more.