公司稅和債務政策回顧

ReviewPreMid-Term-->Debtvs.EquityoverviewLastLecture(Ch17)reintroducedthesetopicsNow-Wewillbegintoaddrealworldcomplexities.1.TopicsCoveredDebtandValueinaTaxFreeEconomyCorporateTaxesandDebtPolicyCostofFinancialDistressExplainingFinancialChoices2.M&M(DebtPolicyDoesn’tMatter)Modigliani&MillerWhentherearenotaxesandcapitalmarketsfunctionwell,itmakesnodifferencewhetherthefirmborrowsorindividualshareholdersborrow.Therefore,themarketvalueofacompanydoesnotdependonitscapitalstructure.3.M&M(DebtPolicyDoesn’tMatter)AssumptionsByissuing1securityratherthan2,companydiminishesinvestorchoice.Thisdoesnotreducevalueif:Investorsdonotneedchoice,ORTherearesufficientalternativesecuritiesCapitalstructuredoesnotaffectcashflowse.g...NotaxesNobankruptcycostsNoeffectonmanagementincentives4.Example-RiverCruises-AllEquityFinancedM&M(DebtPolicyDoesn’tMatter)5.Example

cont.50%debtM&M(DebtPolicyDoesn’tMatter)6.Example-RiverCruises-AllEquityFinanced -DebtreplicatedbyinvestorsM&M(DebtPolicyDoesn’tMatter)7.FinancialRisk-Risktoshareholdersresultingfromtheuseofdebt.FinancialLeverage-Increaseinthevariabilityofshareholderreturnsthatcomesfromtheuseofdebt.InterestTaxShield-Taxsavingsresultingfromdeductibilityofinterestpayments.C.S.&CorporateTaxes8.Example-YouownalltheequityofSpaceBabiesDiaperCo..Thecompanyhasnodebt.Thecompany’sannualcashflowis$1,000,beforeinterestandtaxes.Thecorporatetaxrateis40%.Youhavetheoptiontoexchange1/2ofyourequitypositionfor10%bondswithafacevalueof$1,000.Shouldyoudothisandwhy?C.S.&CorporateTaxes9.Example-YouownalltheequityofSpaceBabiesDiaperCo..Thecompanyhasnodebt.Thecompany’sannualcashflowis$1,000,beforeinterestandtaxes.Thecorporatetaxrateis40%.Youhavetheoptiontoexchange1/2ofyourequitypositionfor10%bondswithafacevalueof$1,000.Shouldyoudothisandwhy?

AllEquity 1/2DebtEBIT 1,000 InterestPmt 0 PretaxIncome 1,000 Taxes@40% 400 NetCashFlow $600 C.S.&CorporateTaxes10.

AllEquity 1/2DebtEBIT 1,000 1,000InterestPmt 0 100PretaxIncome 1,000 900Taxes@40% 400 360NetCashFlow $600 $540Example-YouownalltheequityofSpaceBabiesDiaperCo..Thecompanyhasnodebt.Thecompany’sannualcashflowis$1,000,beforeinterestandtaxes.Thecorporatetaxrateis40%.Youhavetheoptiontoexchange1/2ofyourequitypositionfor10%bondswithafacevalueof$1,000.Shouldyoudothisandwhy?C.S.&CorporateTaxes11.C.S.&CorporateTaxes

AllEquity 1/2DebtEBIT 1,000 1,000InterestPmt 0 100PretaxIncome 1,000 900Taxes@40% 400 360NetCashFlow $600 $540TotalCashFlowAllEquity=600*1/2Debt=640(540+100)Example-YouownalltheequityofSpaceBabiesDiaperCo..Thecompanyhasnodebt.Thecompany’sannualcashflowis$1,000,beforeinterestandtaxes.Thecorporatetaxrateis40%.Youhavetheoptiontoexchange1/2ofyourequitypositionfor10%bondswithafacevalueof$1,000.Shouldyoudothisandwhy?12.CapitalStructurePVofTaxShield=(assumeperpetuity)

DxrDxTcrD=DxTc13.CapitalStructurePVofTaxShield=(assumeperpetuity)

DxrDxTcrD=DxTcExample:Taxbenefit=1000x(.10)x(.40)=$40

14.CapitalStructurePVofTaxShield=(assumeperpetuity)

DxrDxTcrD=DxTcExample:Taxbenefit=1000x(.10)x(.40)=$40

PVof40perpetuity=40/.10=$40015.CapitalStructurePVofTaxShield=(assumeperpetuity)

DxrDxTcrD=DxTcExample:Taxbenefit=1000x(.10)x(.40)=$40PVof40perpetuity=40/.10=$400PVTaxShield=DxTc=1000x.4=$40016.CapitalStructureFirmValue=ValueofAllEquityFirm+PVTaxShield17.CapitalStructureFirmValue=ValueofAllEquityFirm+PVTaxShieldExampleAllEquityValue=600/.10=6,000

18.CapitalStructureFirmValue=ValueofAllEquityFirm+PVTaxShieldExampleAllEquityValue=600/.10=6,000PVTaxShield=40019.CapitalStructureFirmValue=ValueofAllEquityFirm+PVTaxShieldExampleAllEquityValue=600/.10=6,000PVTaxShield=400FirmValuewith1/2Debt=$6,40020.C.S.&Taxes(Personal&Corp)RelativeAdvantageFormula(DebtvsEquity)1-TP(1-TPE)(1-TC)21.C.S.&Taxes(Personal&Corp)RelativeAdvantageFormula(DebtvsEquity)1-TP(1-TPE)(1-TC)RAF>1 DebtRAF<1 EquityAdvantage22.Example1AllDebt AllEquityIncomeBTCP 1.00 lessTC=.46 0.00 IncomeBTP 1.00 TaxesTP=.5TPE=0 0.50 AfterTaxIncome 0.50 C.S.&Taxes(Personal&Corp)23.Example1AllDebt AllEquityIncomeBTCP 1.00 1.00lessTC=.46 0.00 0.46IncomeBTP 1.00 0.54TaxesTP=.5TPE=0 0.50 0.00AfterTaxIncome 0.50 0.54C.S.&Taxes(Personal&Corp)24.Example1AllDebt AllEquityIncomeBTCP 1.00 1.00lessTC=.46 0.00 0.46IncomeBTP 1.00 0.54TaxesTP=.5TPE=0 0.50 0.00AfterTaxIncome 0.50 0.54RAF=.926

AdvantageEquityC.S.&Taxes(Personal&Corp)25.Example2AllDebt AllEquityIncomeBTCP 1.00 lessTC=.34 0.00 IncomeBTP 1.00 TaxesTP=.28TPE=.21 0.28 AfterTaxIncome 0.72 C.S.&Taxes(Personal&Corp)26.Example2AllDebt AllEquityIncomeBTCP 1.00 1.00lessTC=.34 0.00 0.34IncomeBTP 1.00 0.66TaxesTP=.28TPE=.21 0.28 0.139AfterTaxIncome 0.72 0.521C.S.&Taxes(Personal&Corp)27.Example2AllDebt AllEquityIncomeBTCP 1.00 1.00lessTC=.34 0.00 0.34IncomeBTP 1.00 0.66TaxesTP=.21TPE=.28 0.28 0.139AfterTaxIncome 0.72 0.521RAF=1.381

AdvantageDebtC.S.&Taxes(Personal&Corp)28.Today’sRAF&DebtvsEquitypreference.OldTaxCode1-.28(1-.28)(1-.34)=1.52RAF=C.S.&Taxes(Personal&Corp)29.Today’sRAF&DebtvsEquitypreference.NewTaxCode1-.28(1-.20)(1-.34)=1.36RAF=C.S.&Taxes(Personal&Corp)30.Today’sRAF&DebtvsEquitypreference.1-.28(1-.20)(1-.34)=1.36RAF=Whyarecompaniesnotalldebt?C.S.&Taxes(Personal&Corp)31.CapitalStructureStructureofBondYieldRatesDEBondYieldr32.WeightedAverageCostofCapital

withouttaxes(traditionalview)rDVrDrEIncludesBankruptcyRiskWACC33.FinancialDistressCostsofFinancialDistress-Costsarisingfrombankruptcyordistortedbusinessdecisionsbeforebankruptcy.34.FinancialDistressCostsofFinancialDistress-Costsarisingfrombankruptcyordistortedbusinessdecisionsbeforebankruptcy.MarketValue= ValueifallEquityFinanced +PVTaxShield

-PVCostsofFinancialDistress35.FinancialDistressDebtMarketValueofTheFirmValueofunleveredfirmPVofinteresttaxshieldsCostsoffinancialdistressValueofleveredfirmOptimalamountofdebtMaximumvalueoffirm36.FinancialChoicesTrade-offTheory-Theorythatcapitalstructureisbasedonatrade-offbetweentaxsavingsanddistresscostsofdebt.PeckingOrderTheory-Theorystatingthatfirmsprefertoissuedebtratherthanequityifinternalfinanceisinsufficient.37.Investment&Financing

Interaction

AdjustedPresentValue APV=BaseCaseNPV +PVImpact

BaseCase=AllequityfinancefirmNPVPVImpact=allcosts/benefitsdirectlyresultingfromproject38.example:ProjectAhasanNPVof$150,000.Inordertofinancetheprojectwemustissuestock,withabrokeragecostof$200,000.Investment&Financing

Interaction39.example:ProjectAhasanNPVof$150,000.Inordertofinancetheprojectwemustissuestock,withabrokeragecostof$200,000.ProjectNPV= 150,000Stockissuecost= -200,000AdjustedNPV -50,000don’tdotheprojectInvestment&Financing

Interaction40.example:ProjectBhasaNPVof-$20,000.Wecanissuedebtat8%tofinancetheproject.ThenewdebthasaPVTaxShieldof$60,000.AssumethatProjectBisyouronlyoption.Investment&Financing

Interaction41.example:ProjectBhasaNPVof-$20,000.Wecanissuedebtat8%tofinancetheproject.ThenewdebthasaPVTaxShieldof$60,000.AssumethatProjectBisyouronlyoption.ProjectNPV= -20,000Stockissuecost= 60,000AdjustedNPV 40,000dotheprojectInvestment&Financing

Interaction42.AdjustedPresentValueAdjustedDiscountRateInvestment&Financing

Interaction43.AdjustedCostofCapital(alternativetoWACC)M&MFormula-->ADR=r(1-TcL)L=Debt/Valuer=Costofequity@allequityTc=CorpTaxRatealternativetoWACC(almostsameresults)Investment&Financing

Interaction44.AdjustedCostofCapital(alternativetoWACC)Investment&Financing

InteractionMilesandEzzell45.AdjustedPresentValueAdjustedDiscountRateWeightedAverageCostofCapitalInvestment&Financing

Interaction46.AfterTaxWACCThetaxbenefitfrominterestexpensedeductibilitymustbeincludedinthecostoffunds.Thistaxbenefitreducestheeffectivecostofdebtbyafactorofthemarginaltaxrate.Old

Formula47.AfterTaxWACCTaxAdjusted

Formula48.AfterTaxWACC

Example-SangriaCorporation Thefirmhasamarginaltaxrateof35%.Thecostofequityis14.6%andthepretaxcostofdebtis8%.Giventhebookandmarketvaluebalancesheets,whatisthetaxadjustedWACC?49.AfterTaxWACC

Example-SangriaCorporation-continued50.AfterTaxWACC

Example-SangriaCorporation-continuedMARKETVALUES51.AfterTaxWACC

Example-SangriaCorporation-continuedDebtratio=(D/V)=50/125=.4or40%Equityratio=(E/V)=75/125=.6or60%52.AfterTaxWACC

Example-SangriaCorporation-continued53.AfterTaxWACC

Example-SangriaCorporation-continued Thecompanywouldliketoinvestinaperpetualcrushingmachinewithcashflowsof$2.085millionperyearpre-tax. Givenaninitialinvestmentof$12.5million,whatisthevalueofthemachine?54.AfterTaxWACC

Example-