Assume the following selected financial information about a firm that is about to restructure capital by exchanging equity for debt:
$\begin{array}{ll}
\text { Pressent debt level } & =\$ 0 \
\text { Proposed equity for debt swap } & =\$ 1,500,000 \
\text { Interest rate on debt } & =6 \% \
\text { Corporate tax rate } & =40 \% \
\text { Market value of the firm's ecuity } & =\$ 2,400,000
\end{array}$
a. If the firm operates in the world of the Modigliani-Miller model with taxes but without bankruptcy costs what would be the market value of its equity after the restructuring?
b. By how much would the firm's total value and therefore shareholder wealth increase as a result of the swap? Explain.
c. Would we be able to answer the questions in part a and b precisely in the MM model with taxes and bankruptcy costs? Why?

Question

Assume the following selected financial information about a firm that is about to restructure capital by exchanging equity for debt:
 $\begin{array}{ll}
\text { Pressent debt level } & =\$ 0 \
\text { Proposed equity for debt swap } & =\$ 1,500,000 \
\text { Interest rate on debt } & =6 \% \
\text { Corporate tax rate } & =40 \% \
\text { Market value of the firm's ecuity } & =\$ 2,400,000
\end{array}$ 
a.	If the firm operates in the world of the Modigliani-Miller model with taxes but without bankruptcy costs what would be the market value of its equity after the restructuring?
b.	By how much would the firm's total value and therefore shareholder wealth increase as a result of the swap? Explain.
c.	Would we be able to answer the questions in part a and b precisely in the MM model with taxes and bankruptcy costs? Why?

Quizplus · Accepted Answer

The Answer of Assume the following selected financial information about a firm that is about to restructure capital by exchanging equity for debt:
 $\begin{array}{ll}
\text { Pressent debt level } & =\$ 0 \
\text { Proposed equity for debt swap } & =\$ 1,500,000 \
\text { Interest rate on debt } & =6 \% \
\text { Corporate tax rate } & =40 \% \
\text { Market value of the firm's ecuity } & =\$ 2,400,000
\end{array}$ 
a.	If the firm operates in the world of the Modigliani-Miller model with taxes but without bankruptcy costs what would be the market value of its equity after the restructuring?
b.	By how much would the firm's total value and therefore shareholder wealth increase as a result of the swap? Explain.
c.	Would we be able to answer the questions in part a and b precisely in the MM model with taxes and bankruptcy costs? Why?

Assume the Following Selected Financial Information About a Firm That