Class 13

Class 13 - o When you increase debt who gets the extra...

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Ch. 15: Capital Structure Deciding on mix of debt and equity to influence value of a firm Does debt/ borrowing create value? o If so, for who? o If it does, it will show up as changes in cash flows or changes in discount rate NPV variables Levered beta vs. unlevered beta: o Levered beta in WACC: If firm takes on more debt, risk of bankruptcy increases Thus, beta must increase o Unlevered beta: 0% debt firm o Financial risk: Unlevered beta solely reflects business/ operations risk Value of firm: o FCF/ WACC o Value is greater if WACC is smaller o As you add debt value is increasing o WACC declines b/c kd is lower than ke o What is optimal point of debt/ equity? However, we have not yet calculated debt and equity:
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Unformatted text preview: o When you increase debt who gets the extra value? Equity holders? Debt holders? o Value of debt (cash flow to creditors): Interest/ pretax kd o Cash flow to shareholders: RCF/ ke o Shareholders get all extra value from debt increase: LBO increases price per share When assets grow equity gets extra value Where is this extra value coming from? o Debt tax shield: Tax x debt As you take on more debt, int. exp. Grows, leading to tax reduction Value added through financing effort o So who loses value? The government loses tax revenue...
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This note was uploaded on 06/11/2011 for the course BUSI 408 taught by Professor Croce during the Spring '08 term at UNC.

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Class 13 - o When you increase debt who gets the extra...

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