215.3
3. Your firm is considering raising $10 million
dollars in new equity and using it to retire $10 million of debt
(with 8% coupon) that had been considered to be permanent. The
tax rate is 34% and the transaction costs will be $200,000. The
current total value of the firm is $100 million. What will the
new total value of the firm be after the transaction? (2 pts.)
This change in capital structure will affect two things: taxes and transaction costs. The reduction in what was considered to be permanent debt will reduce the value of the firm by the present value of all of the future tax shields created by that debt. The firm will also suffer a cash outflow of $200,000 to pay for the transaction.
Total value reduction equals $3.4Million + $200,000 in transaction costs=$3.6M.
New Value of the firm = $100M-$3.6M = $96.4M.
New Value: $96.4M