This spreadsheet supports STUDENT analysis of the case “An Introduction to Debt Policy and Value” (ase !"#$
This spreadsheet +as prepared by %obert ,$ -runer$ opyri.ht / "00" by the Uni&ersity of Vir.inia Darden School ,oundation* harlottes&ille* VA$ All ri.hts reser&ed$ For customer service service inquiries, send send an e-mail e-mail to sales1dardenbusinesspublishin.$co2. No part of this publication may be reproduced, stored in a retrieval system, posted to the Internet, or transmitted in any form or by any means—electronic, mechanical, photocopying, recording, or otherwise—without the permission of the Darden chool Foundation. %e&$ 'un$ )* )"
Problem 1: Value of Assets
)3 Debt4 "))3 E6uity 9 :")*)))
53 Debt4 753 E6uity :*5)) :7*5))
5)3 Debt4 5)3 E6uity :5*))) :5*)))
9 :")*)))
:*5)) :<*!5)
:5*))) :=*7))
Preta> ost of Debt
5$))3
5$))3
5$))3
After9Ta> ost of Debt
!$!)3
!$!)3
!$!)3
)3 "))3 )$<) 5$)3 =$)3
5$)3 =$)3
5$)3 =$)3
:"*<5
:"*<5
:"*<5
:5)) (:5))# 9
:5)) (:5))# 9
:5)) (:5))# 9
-oo8 Value of Debt -oo8 Value of E6uity ;ar8et Value of Debt ;ar8et Value of E6uity
;ar8et Value ?ei.hts of Debt E6uity @e&ered -eta %is89,ree %ate ;ar8et Pre2iu2 ost of E6uity ?ei.hted9A&era.e ost of apital E-IT Ta>es (1 !3# E-IAT B Depreciation 9 apital e>p$ B han.e in net +or8in. capital ,ree ash ,lo+ Value of Assets (,,4?A#
Problem 2: Value of Equity and Debt
)3 Debt4 "))3 E6uity ash flo+ to creditorsC Interest Preta> cost of debt Value of debtC (Int4 d# ash flo+ to shareholdersC E-IT Interest Preta> profit Ta>es (1 !3# Net inco2e B Depreciation 9 apital e>p$ B han.e in net +or8in. capital 9 Debt a2ortiation %esidual cash flo+ ost of e6uity Value of e6uity (%,4 e# Value of e6uity plus &alue of debt
53 Debt4 753 E6uity
5)3 Debt4 5)3 E6uity
9 5$)3
:"5 5$)3
:5) 5$)3
:"*<5 9
:"*<5 :"5
:"*<5 :5)
:5)) (:5))# 9 9
:5)) (:5))# 9 9
:5)) (:5))# 9 9
Problem 3: Business Flows and Financing Effects
)3 Debt4 "))3 E6uity Pure -usiness ash ,lo+sC E-IT Ta>es (1 !3# E-IAT BDepreciation 9apital e>p$ Bhan.e in net +or8in. capital ,ree ash ,lo+ Unle&ered -eta %is89,ree %ate ;ar8et Pre2iu2 Unle&ered ?A
53 Debt4 753 E6uity
5)3 Debt4 5)3 E6uity
:"*<5 :5)5 :0<) :5)) (:5))# 9 :0<)
:"*<5 :5)5 :0<) :5)) (:5))# 9 :0<)
:"*<5 :5)5 :0<) :5)) (:5))# 9 :0<)
)$< 5$)3 =$)3
)$< 5$)3 =$)3
)$< 5$)3 =$)3
5$)3
5$)3
5$)3
Value of Pure -usiness ,lo+sC (,,4Unle&ered ?A# ,inancin. ash ,lo+s Interest Ta> %eduction Preta> ost of Debt Value of ,inancin. EffectC (Ta> %eduction4Preta> ost of Debt# Total Value (Su2 of Values of Pure -usiness ,lo+s and ,inancin. Effects#
$ ?hat re2ains to be seen ho+e&er* is +hether shareholders are better or +orse off +ith 2ore le&era.e$ Proble2 does not tell us* because there +e co2puted total &alue of e6uity* and shareholders care about &alue per share$ Frdinarily* total &alue +ill be a .ood pro>y for +hat is happenin. to the price per share* but in the case of a rele&erin. fir2* that 2ay not be true$ I2plicitly +e assu2ed that* as our fir2 in proble2s "9! le&ered up* it +as repurchasin. stoc8 on the open 2ar8et (you +ill note that E-IT did not chan.e* so 2ana.e2ent +as clearly not in&estin. the proceeds fro2 the loans in cash9.eneratin. assets#$ ?e held E-IT constant so that +e could see clearly the effect of financial chan.es +ithout .ettin. the2 2i>ed up in the effects of in&est2ents$ The point is that* as the fir2 borro+s and repurchases shares* the total &alue of e6uity 2ay decline* but the price per share 2ay rise$ No+* sol&in. for the price per share 2ay see2 i2possible* because +e are dealin. +ith t+o un8no+nsGshare price and chan.e in the nu2ber of sharesC Share Price J
;ar8et Value of E6uity (Fri.inal 9 %epurchased Shares Shares#
-ut by re+ritin. the e6uation* +e can put it in a for2 that can be sol&edC
Share Fri.inal ;ar8et Value of Price J Value of E6uity B ,inancin. Effect H of Fri.inal Shares
%eferrin. to the results of proble2 * lets assu2e that all the ne+ debt is e6ual to the cash paid to repurchase shares$ Please co2plete the follo+in. tableC
Total ;ar8et Value of E6uity ash Paid Fut H Fri.inal Shares Total Value Per Share
)3 Debt4 "))3 E6uity
53 Debt4 753 E6uity
"*)))
"*)))
5)3 Debt4 5)3 E6uity
"*)))
7$ As a +ay of illustratin. the usefulness of the ;K; theory and consolidatin. your .rasp of the 2echanics* consider the follo+in. case and co2plete the +or8 sheet$ Fn ;arch !* "0<<* -eaer Plc$* a -ritish construction co2pany* and Shearson @eh2an Lutton* Inc$ (an in&est2ent ban8in. fir2#* co22enced a hostile tender offer to purchase all the outstandin. stoc8 of oppers o2pany* Inc$* a producer of construction 2aterials* che2icals* and buildin. products$ Fri.inally the raiders offered :5 per shareM subse6uently the offer +as raised to :5=* and then finally :=" per share$ The oppers board .enerally asserted that the offers +ere inade6uate and its 2ana.e2ent +as re&ie+in. the possibility of a 2aor recapitaliation$ To test the &aluation effects of the recapitaliation alternati&e* assu2e that oppers could borro+ a 2a>i2u2 of :"*7!<*)05*))) at a preta> cost of debt of ")$5 percent and that the a..re.ate a2ount of debt +ill re2ain constant in perpetuity$ Thus* oppers +ill ta8e on additional debt of :l*5=5*=<=*))) (I$e$* :"*7!<*)05*))) 9 :"7*)0*)))#$ Also assu2e that the proceeds of the loan +ould be paid as an e>traordinary di&idend to shareholders$ E>hibit " presents oppers boo89 and 2ar8et9&alue balance sheets assu2in. the capital structure before recapitaliation$ Please co2plete the +or8 sheet for the recapitaliation alternati&e$
O>)))O
E>hibit "
AN INT%FDUTIFN TF DE-T PF@I AND VA@UE oppers o2pany* Inc$
-efore %ecapitaliation -oo8 Value -alance Sheets Net +or8in. capital ,i>ed assets Total assets @on.9ter2 debt Deferred ta>es* etc$ Preferred stoc8 o22on e6uity Total capital ;ar8et9Value -alance Sheets Net +or8in. capital ,i>ed assets PV debt ta> shield Total assets @on. ter2 debt Deferred ta>es* etc$ Preferred stoc8 o22on e6uity Total capital
:
:
:
:
"*5! =)"*= <"!*<00 "7*)0 "05*="= "5*))) !)*<7 <"!*<00
"*5! "*="<*)<" 5<*="0 "*<<0*"5! "7*)0 9 "5*))) "*7)"*7 "*<<0*"5!
After %ecapitaliation
Nu2ber of shares Price per share
:
<*"< =)$5)
Value to Public Shareholders ash recei&ed Value of shares Total Total per share
: : : :
9 "*7)"*7 "*7)"*7 =)$5)
