Table 172

Possible Payoffs to Shareholders: Debt Plus Dividend stays the same, then shareholders will experience a capital loss that will exactly offset the extra dividend. This is Scenario II. In Scenario I, the value of the firm increases to $1,250 and the shareholders come out ahead by $250. In other words, the restructuring has an NPV of $250 in this scenario. The NPV in Scenario III is -$250.

The key observation to make here is that the change in the value of the firm is the same as the net effect on the stockholders. Financial managers can therefore try to find the capital structure that maximizes the value of the firm. Put another way, the NPV rule applies to capital structure decisions, and the change in the value of the overall firm is the NPV of a restructuring. Thus, J. J. Sprint should borrow $500 if it expects Scenario I. The crucial question in determining a firm's capital structure is, of course, which scenario is likely to occur.

0 0

Post a comment