{[ promptMessage ]}

Bookmark it

{[ promptMessage ]}

Lecture5 - ucf apv fte debt wacc

# 205 26915509

This preview shows page 1. Sign up to view the full content.

This is the end of the preview. Sign up to access the rest of the document.

Unformatted text preview: Capital Obtaining Cost MM proposition II with taxes B rS = r0 + (1 − T )( r0 − rB ) S This gives the following unlevering formula for the all­ equity cost of capital r0 = S B rS + (1 − T )rB S + B (1 − T ) S + B (1 − T ) What happens with risk­free debt? 31 All-Equity Cost of Capital vs. WACC All-Equity Cost Note that, although this looks very similar to the formula for WACC, they are slightly different: WACC can be shown to be (we did this on p. 13): S + B(1 − T ) WACC = * r0 S+B This corresponds with our intuition that WACC falls as the debt to equity ratio increases Again, we carefully discussed this issue on p. 12­13. 32 Obtaining the All-Equity β Obtaining We will refer to the “all­equity beta”, “unlevered beta” or “asset beta” indistinctly, and will denote it βA. B (1 − T ) S βA = β E + S + B(1 − T ) β D S + B(1 − T ) When we assume the debt beta = 0, we get: B β E = 1 + (1 − T ) β A S Where are these things coming from? 33 APV APPLICATIONS: Example 3 Suppose a firm is considering a \$30 million project that will last for five years (assume no depreciation here). Projected after tax operating cash flows are \$9 million per year during the life of the project. The tax rate is 40%. The unlevered cost of capital is r0=20% (the cost of capital to a similar all­equity firm). Suppose the firm is deciding between either all equity financing or financing with a five­year balloon payment loan of \$22.5 million before flotation costs. The interest rate...
View Full Document

{[ snackBarMessage ]}