The Veblen Company and the Knight Company are identical in every respect except that Veblen is not levered. The Knight Company's 6 percent bonds sell...
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The Veblen Company and the Knight Company are identical in every respect

except that Veblen is not levered. The Knight Company's 6 percent bonds sell at par value. Financial information for the two firms appears below. All earnings streams are perpetuities. Neither firm pays taxes. Both firms distribute all earnings available to common stockholders immediately.
  
Veblen  
Projected operating income$1,100,000 
Market value of stock 4,300,000  


Knight
Projected operating income $1,100,000 
Year-end interest on debt −  114,000 
Market value of stock 2,650,000
Market value of debt −  1,900,000 


What is the annual net cash flow to the investor if 5 percent of Veblen's equity is purchased instead? Assume that borrowing occurs so that the net initial investment in each company is equal. The interest rate on debt is 6 percent per year. 

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Subject: Business, Finance
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