When a corporation issues permanent debt,its value:
A) increases by the present value of the tax shield.
B) decreases by the present value of the tax shield.
C) increases by the annual interest tax shield.
D) decreases by the annual interest tax shield.

Question

Quizplus · Accepted Answer

When a corporation issues permanent debt, its value increases by the present value of the tax shield. This is because the interest paid on debt is tax-deductible, and thus reduces the corporation's tax bill. The present value of this tax shield is calculated by discounting the tax savings back to their present value. Therefore, issuing permanent debt creates a tax shield which increases the corporation's value by the present value of this tax shield.

When a Corporation Issues Permanent Debt,its Value