Glassmaker Corporation Data
Glassmaker Corporation has a currentcapital structure consisting of $100 million (market value) of 9% bonds and $300 million (market value) of common stock. Glassmaker's beta is 1.5. Glassmaker faces a 25% tax rate.Glassmaker plans on making big changes in operation and capital structure during the next several years. (Its tax rate will remain unchanged.) Under these plans, the free cash flows for Glassmaker are estimated to be $29 million for each of the next 4 years; the horizon value of the free cash flows (discounted at the rate assumed by the compressed adjusted present value (CAPV) approach) is $487 million at Year 4. Glass maker will increase its debt to $140 million in the recapitalization. This will cause the estimatedtax savings due to interest expenses areestimatedto be$3.2 million for each of the next 4 years; the horizon value of the tax shields (discounted at the rate assumed by the CAPV approach) is estimated to be $53 million at Year 4. Glassmaker has no nonoperating assets. Currently, the risk-free rate is 6.0% and the market risk premium is 4.0%.
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Refer to data for Glassmaker Corporation. According to the compressed adjusted present value model, what discount rate should you use to discount Glassmaker's free cash flows and interest tax savings?
A. 10.00%
B. 11.00%
C. 11.25%
D. 12.03%
E. 13.11%
Answer: C
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