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1、WACC and Debt Policy,Optimal Capital Structure?,M&M(Debt Policy Doesnt Matter),Modigliani&Miller(Proposition I)When there are no taxes and capital markets are perfect,the market value of a company does not depend on its capital structure.,The Value of the firm does not change with debt:VL=VU,Return
2、on Assets(wacc)No Taxes,Note:rA=WACC(with no taxes),M&M Proposition II,V=D+E,These should be Market values!,The cost of equity capital increases with financial leverage due to the increase in Risk!,r,DE,rD,rE,M&M Proposition II,rA=WACC,Risk free debt,Risky debt,Leverage and Returns,Impact on Beta,Le
3、verage and Returns,Impact on Beta,If the Beta of Debt is assumed to be Zero BD=0The Beta of the Levered Firm is Equal to theBeta of the Unlevered Firm(or Asset Beta)timesOne plus the Debt-to-Equity Ratio,Note:Equity betas are levered betas and asset betas areunlevered betas(L=E and U=A).,WACC(no tax
4、es),WACC is the traditional view of capital structure,risk and return.,Capital Structurewith taxes,PV of Tax Shield=(assume perpetuity),D x rD x Tc rD,=D x Tc,Firm Value=Value of All Equity Firm+PV Tax Shield,VL=VU+TC x D,MM Proposition I with Corporate Taxes,MM Prop.I with Taxes,Debt,Market Value o
5、f The Firm,Value ofunleveredfirm,PV of interesttax shields,Value of levered firm,Optimal amount of debt,MM with Corporate Taxes,MM Proposition II with Corporate Taxes,r0=the return on the all equity financed firm(the unleveredfirm or the return on the assets of the firm),Debt and Taxes,Impact on Bet
6、a,If the Beta of Debt is assumed to be Zero BD=0,Remember,L is the equity beta for a firm with leverage,andU is the beta for the firm with NO debt,r,DV,rD,rE,WACC,MM with Taxes:WACC,r0,Financial Distress,Costs of Financial Distress-Costs arising from bankruptcy or distorted business decisions before
7、 bankruptcy.Market Value=Value if all Equity Financed+PV Tax Shield-PV Costs of Financial Distress,Financial Distress,Debt,Market Value of The Firm,Value ofunleveredfirm,PV of interesttax shields,Costs offinancial distress,Value of levered firm,Optimal amount of debt,Maximum value of firm,WACC with Taxes,Important:The WACC Formula,Weighted Average Cost of Capital(with costs of financial distress),r,DV,rD,rE,WACC,Optimal amount of debt,Costs of Debt,Financial Distress CostsPersonal Tax Disadvantage of DebtAgency CostsInformation Costs(or Benefits)of DebtThe Pecking Order Theory,
