--%>
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 : PV of Dividends PV of dividends:

    PV of dividends: Cortez, Inc., is expecting to pay out a dividend of $2.50 next year. After that it expects its dividend to grow at 7 percent for the next four years. What is the present value of dividends over the next five-year period if the required rate of return is 10 percent?

    		•
  • Q : What is Financial Analysis Financial

    Financial Analysis: It is the investigation and interpretation of financial statements and associated financial reports. Trained and certified accountants generally complete this kind of analysis. The role of a financial analyst is to

    		•
  • Q : Is the given affirmation of an

    Is the given affirmation of an accountancy expert true? “There valuation criterion that reflects the value of the shares of a company in the most accurate way is based on the amount of the equity of shareholder of its balance sheet. Stating that the value of sha

    		•
  • Q : Relationship between the preferred

    Quetion: A private equity fund invests $100 million into a portfolio company and receives 100% of the preferred stock and 80% of the common stock of the company.  The preferred stock carries a face value of $1

    		•
  • Q : Convertible Bonds-Corporate Bonds State

    State the term Convertible Bonds in Corporate Bonds?

    		•
  • Q : Analysis on Stock Prices Using the last

    Using the last 3 years of closing stock prices on the first trading day of each month from January,  2010 through December 2012 for Apple (APPL) and the S&P 500 (market) for the same date range 1)    &n

    		•
  • Q : Structure of Interest rates Which

    Which determines the shape of the term structure of Interest rates?

    		•
  • Q : Commercial bank problems For an

    For an enhanced understanding of banking industry, it is significant to look at the atmosphere in which commercial banks operate. Production growth and globalization are two main forces reshaping the banking industry nowadays. The following two questions are associate

    		•
  • Q : Porters Secondary activities Porter's

    Porter's Secondary activities: 1. Procurement: • Identification process of raw material.• Identification process of identifying probable suppliers.• Process of purchasing and calling quotes. 2. Human Resource management:

    		•
  • Q : Cost of capital You have joined Zurich

    You have joined Zurich Pvt. Ltd as a Finance manager. You are given the following information: Zurich Pvt Ltd. is a diversified manufacturing firm dealing with electrical appliances. In 2012, the firm reported an operating income of Rs. 857.60 million and faced a tax rate of 35% on income. The

    		•