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With costs of leverage this theory provides another

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Unformatted text preview: that takes into account that the cost of leverage is not strictly proportional to debt. ϕ should be lower for small leverage and higher for high leverage. Introducing this parameter, the value of tax shields is VTS = PV [Ku; D T Ku - ϕ D (Kd- RF)]. By comparing [35] to [34], it can be seen that [40] provides a VTS that is PV[Ku; D (Kd - RF)] lower than [34]. We interpret this difference as a leverage cost introduced into the valuation. The following table provides a synthesis of the nine theories about the value of tax shields applied to level perpetuities. Perpetuities. Value of Tax Shields (VTS) According to the Nine Theories 1 2 3 4 5 6 7 8 9 Theory Fernández (2004) Damodaran Practitioners’ Harris-Pringle Myers Miles-Ezzell Miller (1977) With-costs-of-leverage Modigliani-Miller Equation [34] [31] [33] [29] [25] [28] [26] [35] [24] VTS DT DT-[D(Kd-RF)(1-T)]/Ku D[RF-Kd(1-T)]/Ku T D Kd/Ku DT TDKd(1+Ku)/[(1+Kd)Ku] 0 D(KuT+RF- Kd)/Ku DT IESE Business School-University of Navarra - 19 Appendix 1 (continued) Fernández (2006) shows that only three of them may be correct: - When the debt level is fixed, Modigliani-Miller or Myers apply, and the tax shields should be discounted at the required return on debt. - If the leverage ratio is fixed at market value, then Miles-Ezzell applies. - If the leverage ratio is fixed at book value, and the appropriate discount rate for the expected increases of debt is Ku, then Fernández (2004) applies. 20 - IESE Business School-University of Navarra Appendix 2 Valuation Equations According to the Main Theories Market Value of the Debt = Nominal Value Fernández (2004) Damodaran (1994) Ke = Ku + ßL D(1 - T) (Ku − Kd) E β L = βu + Ke D(1 - T) ( βu − βd) E Ke = Ku + β L = βu + Ku − WACCBT VTS D(1 - T) βu E DT ⎞ (Kd − R F )(1 − T) ⎛ Ku ⎜1 − ⎟+D E+D ⎝ E+D⎠ DT ⎞ ⎛ Ku ⎜1 − ⎟ ⎝ E+D⎠ WACC D(1 - T) (Ku − R F ) E DT(Ku - Kd) E+D Ku - D T(Ku − R F ) − (Kd − R F ) E+D PV[Ku; DTKu] PV[Ku; DTKu - D (Kd- RF) (1-T)] ECFt\\Ku ECFt – Dt-1 (Kut - Kdt) (1-T) ECFt - Dt-1 (Ku - RF ) (1-T) FCFt\\Ku FCFt + Dt-1 Kut T FCFt + Dt-1 Ku T - Dt-1 (Kd -RF) (1-T) ECFt\\RF ECFt – Dt-1 (Kut – Kdt) (1-T) – – Et-1 (Kut – RF t) ECFt – Dt-1 (Ku - RF ) (1-T) – – Et-1 (Kut - RF t) FCFt\\RF FCFt + Dt-1 Kut T – – (Et-1 + Dt-1)(Kut – RF t) FCFt + Dt-1Ku T - Dt-1(Kd -RF)(1-T) - (Et-1 + Dt-1)(Kut - RF t) Ke ßL WACC Harris-Pringle (1985) Ruback (1995) D Ke = Ku + ( Ku − Kd ) E β L...
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This note was uploaded on 05/10/2013 for the course MBA MBA taught by Professor Mba during the Fall '11 term at ESLSCA.

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