Repurchasing and Recapitalization
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A company expects its EBIT to be $85,000 every year forever. The firm can borrow at 11%. They currently have no debt and their cost of equity is 18%. If the tax rate is 35% what is the value of the firm? What will the value be if they borrow $60,000 and use the proceeds to repurchase shares? What is the cost of equity after recapitalization? What is the WACC? What are the implications for the firm's capital structure decision?
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This solution discusses repurchasing and recapitalization.
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Value of the firm at 100% equity = 85000*(1-35%)/18%=306944
Value of the equity of firm with 60% borrowing = ...
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