Wild Berry (WB) will remain in business for one more year. At the end of next ye

Question

Wild Berry (WB) will remain in business for one more year. At the end of next year, the firm
will generate a liquidating cash flow of $370M in a boom year and $150M in a recession year;
both states are equally likely. The cost of equity for the unlevered firm is rU = 10%. The firm’s
outstanding debt matures in a year and has a market (and book) value of $150M today. The
interest payment on this debt is $15M at the end of next year. The corporate tax is c = 35%.
Corporate taxes is the only relevant market imperfection

If the discount rate for the interest tax shield is rITS = 5%, the value of the interest tax
shield (PV (ITS)) is:
(A) $ 2.5M
(B) $ 5.0M
(C) $ 6.0M
(D) $ 7.5M

Explanation / Answer

Present value of interest tax shield=interest*tax rate/(1+discount rate)=15*35%/1.05=5 million

Option B

Related Questions

Navigate

• Browse (All)
• Browse W
• Subjects

Integrity-first tutoring: explanations and feedback only — we do not complete graded work. Learn more.