I need help with all 3 parts. I posted it before and C was incorrect. Can someon

Question

I need help with all 3 parts. I posted it before and C was incorrect. Can someone please help.

Chapter 16 Saved Help Save & Exit Submit Check my work 3 b. What is United Frypan's after-tax WACC if rDebt-6.1% and rEquity-16.9%? (Do not round intermediate calculations. Enter your answer as a percent rounded to 2 decimal places.) 3.5 points WACC Book C. Now suppose that Congress passes a law that eliminates the deductibility of interest for tax purposes. What will be the new value of the firm, other things equal? Assume a borrowing rate of 6.1%. (Do not round intermediate calculations. Round your answer to 2 decimal places.) Print References New value of the firm Reference links 162 Debt and the Cost of Equity Prev 3 of 4 Next> Hill

Explanation / Answer

a

Debt of $60 is considered to be permanent implying perpetuity

Present value of tax shield in case of perpetuity = Tax rate * Debt = 36% * $60 = $21.6

b

Note: picture unclear so check if cost of debt is entered correctly in formula below. if not 6.1% , replace

WACC = [( Market Value of Debt/ Total Enterprise Value) * ( 1- tax rate) * Cost of debt ]+ [(Market Value of Equity/ Total Enterprise Value) * Cost of Equity]

= [60/220 * (1-0.36) * 6.1%] + [160/220 * 16.9%] = 13.3556% ~ = 13.36%

c

Annual Interest tax shield = Interest Expenses * tax rate = 6.1% * $60 * 36% = $1.3176

Present Value of tax shield = 1.3176 / interest rate ( in case of perpetuity) = $21.6

This is equal to the previous tax shield therefore the value of the firm remains unchanged at $220

Note that other similar questions on net have grace years mentioned but this question doesn't mention any grace year figure. We have to assume perpetuity and solve in such cases. I will also solve assuming 5 years of grace period only to explain how it's done

Annual Interest tax shield = Interest Expenses * tax rate = 6.1% * $60 * 36% = $1.3176

Present Value of tax shield = 1.3176/1.061 + 1.3176/1.0612 + 1.3176/1.0613 + 1.3176/1.0614 + 1.3176/1.0615

= $5.535

Total fall in value of the firm is = $21.6 - $5.535 = $16.065

Value of the firm then becomes $220 - $16.065 = $203.935

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