How much does the value of IWPI-Spain, viewed as a stand-alone firm, change if the royalty fee is increased by 1% and the overhead allocation fee is reduced by 1%? What is the change in value to IWPI-U.S.?
What is the source of this change in value?
We know that because the royalty and the overhead fee are costs to the stand-alone firm and are calculated as a percentage of revenue, the profitability of the stand-alone firm is not affected by lowering the fee from 2% to 1% and raising the royalty rate from 5% to 6%. The present value of the after-tax royalties and fees also doesn't change because the firm gets a tax credit for the withholding tax paid, and it can fully utilize the tax credit. Therefore, the after-tax value of the royalties and fees remains €102.26 million even though the royalty is taxed at a lower rate.
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