Cavo Corporation expects an EBIT of $30,800 every year forever. The company curr

Question

Cavo Corporation expects an EBIT of $30,800 every year forever. The company currently has no debt, and its cost of equity is 14 percent. The corporate tax rate is 35 percent.

Suppose the company can borrow at 9 percent. What will the value of the firm be if the company takes on debt equal to 100 percent of its unlevered value? (Do not round intermediate calculations and round your final answer to 2 decimal places. (e.g., 32.16))

  

  

What will the value of the firm be if the company takes on debt equal to 50 percent of its levered value? (Do not round intermediate calculations and round your final answer to 2 decimal places. (e.g., 32.16))

  

  

What will the value of the firm be if the company takes on debt equal to 100 percent of its levered value? (Do not round intermediate calculations and round your final answer to 2 decimal places. (e.g., 32.16))

  

Cavo Corporation expects an EBIT of $30,800 every year forever. The company currently has no debt, and its cost of equity is 14 percent. The corporate tax rate is 35 percent.

b-2

Suppose the company can borrow at 9 percent. What will the value of the firm be if the company takes on debt equal to 100 percent of its unlevered value? (Do not round intermediate calculations and round your final answer to 2 decimal places. (e.g., 32.16))

  

  Levered value $   

  

c-1

What will the value of the firm be if the company takes on debt equal to 50 percent of its levered value? (Do not round intermediate calculations and round your final answer to 2 decimal places. (e.g., 32.16))

  

  Value of the firm $   

  

c-2

What will the value of the firm be if the company takes on debt equal to 100 percent of its levered value? (Do not round intermediate calculations and round your final answer to 2 decimal places. (e.g., 32.16))

  

  Levered value $   

Current Value of Company = $143000

Explanation / Answer

(b-2)

Step1: Computation of Firm unleavered value.We have,

With no debt,We are basically findings the value of unleavered firm.

Value of Firm = EBIT(1-t) / Ke

   Value of Firm = 30,800 (0.65) / 0.14 = $ 143,000

Value of Firm = $ 143,000

Step2; Computation of value of firm if debt is equal to 100% of unleavered value of Firm.We have,

Value of firm = 143,000 + 143,000(0.35) = $ 193,050

Value of Firm = $ 193,050

Hence Leavered value of firm is $ 193,050.

(c-1) Computation of value of firm if debt is 50% of leavered value of Firm.We have,

Value of Firm = 143,000 + 0.35 x (193,050 / 2)

Value of Firm =$176,783.75

Hence, Value of Firm is $ 176,783.75

(c-2) Computation of value of firm if debt is financed by 100% of leavered value of Firm.We have,

Value of firm = 143,000 + 0.35 x 193,050

Value of Firm = $ 210,567.50

Hence, value of firm is $ 210,567.50

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