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Assumptions of modigliani and miller

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Reference no: EM132406977

Kong Ltd is a home appliance manufacturer listed on the local stock exchange. The company has no debt but has 100 million shares with a current price $10 per share. The company would like to change its capital structure by borrowing $300 million and repurchasing shares. The restructure plan is announced to the market and shareholders expect the change in debt to be permanent

(i). Assume the market is perfect so all the assumptions of Modigliani and Miller (MM) theorey hold. Calculate the value of the firm and the value of equity after the proposed share repurchase.

(ii). Assume the market is imperfect and the only imperfections are corporate taxes and financial distress costs. Kong pays corporate taxes of 40%. If the share price of Kong Ltd increases to $10.6 immediately after the announcement of the capital restructure plan, what is the present value of financial distress costs Kong will incur as the result of the debt?

Reference no: EM132406977

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