--%>
Assignment Help - homework help

How present value of tax shields be calculated

I have two valuations of the company that we set as an objective. Within one of them, the present value of tax shields (D Kd T) computed using Ku (required return to unlevered equity) and, in one, by using Kd (required return to debt). The second valuation is too higher than the first one, but here which of the two is better?

E

Expert

Verified

Fernández (2001) demonstrates that discounting the tax shields along with the Ku and the WACC is not right. There are six habitual expressions to compute the value of tax shields that are frequently used. Just three of them are valid (they have a theoretical origin):

Myers (1974) and Modigliani-Miller (1963), while the company plans to return the existing debt without making a newest one; Miles-Ezzell (1980) while the company plans its debt proportionally to market value of shares; and also Fernández (2004), while the company plans its debt proportionally to book value of the assets or shares.

Fernández (2004): VTS = VA [D Ku T; Ku].

Miles-Ezzell (1980): VA[Ku; D T Kd] (1+Ku)/ (1+Kd)

Myers (1974) and Modigliani-Miller (1963): VTS = VA[Kd; D T Kd]. Other incorrect formulae to calculate the value of tax shields are:

Damodaran (1994): VA [Ku; DTKu – D (Kd – RF) (1–T)];

Practitioners: VA [Ku; DTKd – D(Kd – RF)]

Harris-Pringle (1985) y Ruback (1995, 2002): VA [Ku; D T Kd]

Myers (1974) has to be used only while it is possible to know with whole certainty the amount of the debt at any future instant. Miles y Ezzell (1980) has to be used only when the future debt is proportional to market value of the shares that we are not aware of any company which manages its debt in such a way. Fernández (2004) has to be used only when the risk of the future raise of the debt is the same to that of the FCF.

   Related Questions in Corporate Finance

  • Q : Leverage ratio problem Handy Inc has

    Handy Inc has debt-to-assets ratio of 40%, tax rate of 35%, and total value of $100 million. W. C. Handy, the CFO, would like to increase the leverage ratio to 42%, and he believes that there will be no change in the bankruptcy cost of the company. How many dollars wo

    		•
  • Q : MIRR & IRR Projects Answer using

    Answer using Microsoft Word and your answer should be between 100 and 150 words Question1. Identify the major

    		•
  • Q : WCR fend off takeover bid WCR fend off

    WCR fend off takeover bid: The WCR estimation ensures that a firm takes corrective action in time to correct its WC status. This ensures that the firm is always in a positive WC status. In other words, the firm will be able to pay off all its short-te

    		•
  • Q : Additive risk in the CAPM Suppose that

    Suppose that the two securities APPL and MSFT account for the entire large cap technology component of the S&P 500 (hypothetically – of course – there are really plenty of others). Further, suppose that their weights in the S&P index were as follow

    		•
  • Q : Company Valuation Project Hello, Need a

    Hello, Need a top-notch finance expert to complete a company valuation assignment for me for a class. Will attach details. Please inform me if you have your graduate level resource who is good with company valuations and executive summary writeup of the analysis please. English writing skills ar

    		•
  • Q : Explain Value Chain Value Chain : The

    Value Chain: The value chain is a theory from business management that was first described and popularized Michel Porter in his 1985 best seller, Competitive Advantage: Creating and Sustaining Superior Performance.

  • Q : Is PER an excellent guide to investments

    Is PER an excellent guide to investments?

    		•
  • Q : Explain few Spanish mutual funds

    Is this true that very little Spanish mutual funds outperform their benchmark? Isn’t this strange?

    		•
  • Q : Problem on Zero coupon bonds

    Robertsons, Inc. is planning to enlarge its specialty stores into 5 other states and finance the expansion by issuing 15-year zero coupon bonds with a face value of $1,000. When your opportunity cost is 8 % and similar coupon-bearing bonds will recompense semi-annuall

    		•
  • Q : Bond Price Information What is Bond

    What is Bond Price Information: Answer: Corporate bond market is not considered to be much transparent as it trades predominantly over the counter and investors do n

    		•