Question

The initial investment for a project is $400,000, of which 35% will be financed with debt. The project would generate $72,000 in cash flow for equity holders if the firm were unlevered. If the interest rate on the debt is 8% and the tax rate is 24%, what is the cash flow to the equity holders given that the firm is leveraged?

Answer 1

$63,488

Step-by-step explanation:

Calculation for the cash flow to the equity holders given that the firm is leveraged

Using this formula

Equity holders Cash flow=Cash flow for equity holders -[(1-Tax rate)× Debt interest rate ×(Initial investment debt rate×Project initial investment)]

Let plug in the formula

Equity holders Cash flow=$72,000 - [(1−0.24)× 0.08 ×(0.35×$400,000)]

Equity holders Cash flow=$72,000 -(0.76× 0.08 × $140,000)

Equity holders Cash flow=$72,000-$8,512

Equity holders Cash flow=$63,488

Therefore the cash flow to the equity holders given that the firm is leveraged will be $63,488