Morrison Medical Inc., an all-equity firm, has earnings before interest and taxes of $950,000, an un-levered beta of .80 and a tax rate = 35%. In the market, you observe that Government T-bills are being sold to yield 2% and the S&P/TSX Composite Index is expected to yield 9%. Assume a world with taxes and a cost for the risk of default. All general M&M assumptions apply. You have also been provided the following information: Value of Debt Cost of Debt (Rd) Beta PV of Financial Distress Costs $ 0 - .80 0 $ 5,000,000 5.5% ? $800,000 $ 7,000,000 7.0% 2 ? What is the market value of the firm if the firm issues $7,000,000 in debt? What would be the PV of financial distress costs if the firm issues $7,000,000 in debt?

Morrison Medical Inc., an all-equity firm, has earnings before interest and taxes of $950,000, an un-levered beta of .80 and a tax rate = 35%. In the market, you observe that Government T-bills are being sold to yield 2% and the S&P/TSX Composite Index is expected to yield 9%. Assume a world with taxes and a cost for the risk of default. All general M&M assumptions apply. You have also been provided the following information: Value of Debt Cost of Debt (Rd) Beta PV of Financial Distress Costs $ 0 - .80 0 $ 5,000,000 5.5% ? $800,000 $ 7,000,000 7.0% 2 ? What is the market value of the firm if the firm issues $7,000,000 in debt? What would be the PV of financial distress costs if the firm issues $7,000,000 in debt?

Financial Management: Theory & Practice

16th Edition

ISBN:9781337909730

Author:Brigham

Publisher:Brigham

Chapter15: Capital Structure Decisions

Section: Chapter Questions

Problem 10MC: Liu Industries is a highly levered firm. Suppose there is a large probability that Liu will default...

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Morrison Medical Inc., an all-equity firm, has earnings before interest and taxes of $950,000, an un-levered beta of .80 and a tax rate = 35%. In the market, you observe that Government T-bills are being sold to yield 2% and the S&P/TSX Composite Index is expected to yield 9%. Assume a world with taxes and a cost for the risk of default. All general M&M assumptions apply. You have also been provided the following information: Value of Debt Cost of Debt (Rd) Beta PV of Financial Distress Costs $ 0 - .80 0 $ 5,000,000 5.5% ? $800,000 $ 7,000,000 7.0% 2 ? What is the market value of the firm? What is the market value of the firm and the market value of the equity if they issue $5,000,000 in debt with a coupon rate of 4.5% and use the proceeds to repurchase shares? What is the new cost of equity? According to CAPM, what is the new beta? What is the market value of the firm if the firm issues $7,000,000 in debt? What would be the PV of financial distress costs if…
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