Corporation (FC) is an all-equity firm with 200,000 shares outstanding, currently selling at $20 per share. The company's cost of equity is 17% and it expects an EBIT of $850,000 forever.
As the CEO of the firm, you are considering taking on debt equal to 40% of FC's unlevered value. To do this, you would use the borrowed money to repurchase existing shares in the open market at the current price. You've consulted your advisor and learned that the firm's interest on debt is 8%. Assume that FC's tax rate is 20%.
Using the information provided, answer the following questions SHOWING ALL WORK
1) By M&M's Proposition with tax, what is the unlevered value of FC?
2) If you choose to take on debt, how much debt is taken?
3) How many share could be repurchased with money borrowed?
4) What is the number of shares outstanding after the repurchase is made?
5) What is the company's break-even EBIT?
6) Given the break-even EBIT and the expected annual EBIT of FC, should the firm take on debt equal to 40% of its levered value or not? Justify your answer.