Kyle Corporation is comparing two different capital structur

Kyle Corporation is comparing two different capital structures, an all-equity plan (Plan I) and a levered plan (Plan II). Under Plan I, the company would have 745,000 shares of stock outstanding. Under Plan II, there would be 495,000 shares of stock outstanding and $8.25 million in debt outstanding. The interest rate on the debt is 11 percent, and there are no taxes.

Use M&M Proposition I to find the price per share of equity. (Do not round intermediate calculations and round your answer to the nearest whole number, e.g., 32.)

Share price            $

What is the value of the firm under Plan I? (Do not round intermediate calculations and enter your answer in dollars, not millions of dollars, e.g., 1,234,567. Round your answer to the nearest whole number, e.g., 32.)

Value of the firm            $   

What is the value of the firm under Plan II? (Do not round intermediate calculations and enter your answer in dollars, not millions of dollars, e.g., 1,234,567. Round your answer to the nearest whole number, e.g., 32.)

Value of the firm   

Solution

1) Under MM proposition I without taxes, the market value of a levered firm (with debt) is equal to the market value of an unlevered firm (no debt).

So, in our case -

Market value of firm under Plan I = Market value of firm under Plan II

or, Market value of Equity = Market value of equity + market value of debt

Now, the market of value debt under Plan II should be equal to the market value of extra shares under Plan I -

Price per share = Value of debt under Plan II / Extra shares under Plan I = $8,250,000 / (745,000 - 495,000) = $33

2) Value of firm under Plan I = No. of shares x Price per share = 745,000 x $33 = $24,585,000

3) Value of firm under Plan II = No. of shares x Price per share + Value of Debt = 495,000 x $33 + $8,250,000 = $24,585,000