Use the information for the question(s)below.
Big Blue Banana (BBB)is a clothing retailer with a current share price of $10.00 and with 25 million shares outstanding.Suppose that Big Blue Banana announces plans to lower its corporate taxes by borrowing $100 million and using the proceeds to repurchase shares.
-Suppose that BBB pays corporate taxes of 21% and that shareholders expect the change in debt to be permanent.Assuming that capital markets are perfect except for the existence of corporate taxes,the share price for BBB after this announcement is closest to:

Question

Quizplus · Accepted Answer

The increase in debt provides a tax shield, which increases the firm's value. The value of the tax shield is $100 million * 21% = $21 million. The new value of the firm is the old value plus the tax shield. The old value is $10 * 25 million shares = $250 million. The new value is $250 million + $21 million = $271 million. The new share price is $271 million / 25 million shares = $10.84.

Use the Information for the Question(s)below