11-8b.- Capital Budgeting and Firm Valuation for the Levered Firm

11-8b Capital - Capital Budgeting and Firm Valuation For the Levered Firm Relation to previous chapters Project Valuation vs Firm Valuation We will

Info iconThis preview shows pages 1–7. Sign up to view the full content.

View Full Document Right Arrow Icon
Ramesh Rao 1 Capital Budgeting and Firm Valuation For the Levered Firm Relation to previous chapters Project Valuation vs. Firm Valuation We will consider this in two parts: Part A . When discount rate (unlevered cost of equity) is known (3 equivalent methods) Part B . When discount rate (unlevered cost of equity) is unknown, use “pure play technique”
Background image of page 1

Info iconThis preview has intentionally blurred sections. Sign up to view the full version.

View Full DocumentRight Arrow Icon
Ramesh Rao 2 Part A. Terminology UCF = “unlevered cash flows” (short for “cash flows from project to equityholders of unlevered firm”; same as CFAT seen earlier= EBIT(1-T c ). LCF =“levered cash flows” (short for “cash flows from project to equityholders of levered firm”) LCF=UCF-after tax borrowing cost =UCF-(1-T C )r B B (logic?)
Background image of page 2
Ramesh Rao 3 Valuation and Capital Budgeting for the Levered Firm Part A. Three Equivalent Approaches: 1. Adjusted Present Value (APV) 2. Flow-to-Equity (FTE) 3. Weighted Average Cost of Capital (WACC) Part B. Estimating the Discount Rate The “pure-play” technique (“levering/ unlevering” betas)
Background image of page 3

Info iconThis preview has intentionally blurred sections. Sign up to view the full version.

View Full DocumentRight Arrow Icon
Ramesh Rao 4 A1. APV : Basic Idea Basic Idea of APV ? Three Steps: 1. Compute NPV using E(UCF) 2. Add Value of “side-effects” to get APV Tax Shields from Debt Flotation Costs Financial Distress Costs Other Subsidies 3. Accept project if APV>0
Background image of page 4
Ramesh Rao 5 APV Method = + 1 0 ) 1 ( ) ( t t t r UCF E PV of debt side- effects Initial Investment - + APV = Use this method when project’s level of debt is known over project life
Background image of page 5

Info iconThis preview has intentionally blurred sections. Sign up to view the full version.

View Full DocumentRight Arrow Icon
Ramesh Rao 6 Data for APV Example 1 Firm has a project with following details: Cash inflows: $500,000 into perpetuity
Background image of page 6
Image of page 7
This is the end of the preview. Sign up to access the rest of the document.

This note was uploaded on 01/15/2010 for the course FIN 357 taught by Professor Hadaway during the Fall '06 term at University of Texas at Austin.

Page1 / 26

11-8b Capital - Capital Budgeting and Firm Valuation For the Levered Firm Relation to previous chapters Project Valuation vs Firm Valuation We will

This preview shows document pages 1 - 7. Sign up to view the full document.

View Full Document Right Arrow Icon
Ask a homework question - tutors are online