This file is part of IDEAS, which uses RePEc data


[ Papers | Articles | Software | Books | Chapters | Authors | Institutions | JEL Classification | NEP reports | Search | New papers by email | Author registration | Rankings | Volunteers | FAQ | Blog | Help! ]

The value of tax shields is not equal to the present value of tax shields

Author info | Abstract | Publisher info | Download info | Related research | Statistics
Author Info
Fernández , Pablo () (IESE Business School)

Additional information is available for the following registered author(s):

Abstract

We show that the value of tax shields is the difference between the present values of two different cash flows with their own risk: the present value of taxes for the unlevered company and the present value of taxes for the levered company. For perpetuities without costs of leverage, the value of tax shields is equal to the tax rate times the value of debt. Since the existence of leverage costs is independent of taxes, the value of tax shields when there are no taxes should be negative. We later on look at the case of constant growth and derive similar implications. We then identify 9 valuation theories proposed in the literature to estimate the present value of tax shields and show that only one valuation method is consistent when we look at the case of constant growth and no leverage costs. Three theories provide consistent valuations once leverage costs and growth are allowed for. For constant growth companies, we claim that the value of the tax shield in a world with no leverage cost is the present value of the debt (D) times the tax rate (T) times the required return to the unlevered equity (Ku), discounted at the unlevered cost of equity (Ku): VTS = PV[Ku; D T Ku]. Please note that this does not mean that the appropriate discount for the tax shields is the unlevered cost of equity. We discount D T Ku, which is higher than the shield. This expression arises as the difference of two present values, each with different risk

Download Info
To download:

If you experience problems downloading a file, check if you have the proper application to view it first. Information about this may be contained in the File-Format links below. In case of further problems read the IDEAS help file. Note that these files are not on the IDEAS site. Please be patient as the files may be large.

File URL: http://www.iese.edu/research/pdfs/DI-0459-E.pdf
File Format: application/pdf
File Function:
Download Restriction: no

Publisher Info
Paper provided by IESE Business School in its series IESE Research Papers with number D/459.

Download reference. The following formats are available: HTML, plain text, BibTeX, RIS (EndNote), ReDIF
Length: 29 pages
Date of creation: 01 Jan 2002
Date of revision:
Handle: RePEc:ebg:iesewp:d-0459

Contact details of provider:
Postal: IESE Business School, Av Pearson 21, 08034 Barcelona, SPAIN
Web page: http://www.iese.edu/
More information through EDIRC

For technical questions regarding this item, or to correct its listing, contact: (Silvia Jimenez).

Related research
Keywords: Financial management

Other versions of this item:

Find related papers by JEL classification:
G30 - Financial Economics - - Corporate Finance and Governance - - - General

This paper has been announced in the following NEP Reports:

References listed on IDEAS
Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.:
  1. Miles, James A & Ezzell, John R, 1985. " Reformulating Tax Shield Valuation: A Note," Journal of Finance, American Finance Association, vol. 40(5), pages 1485-92, December. [Downloadable!] (restricted)
  2. Kaplan, Steven N & Ruback, Richard S, 1995. " The Valuation of Cash Flow Forecasts: An Empirical Analysis," Journal of Finance, American Finance Association, vol. 50(4), pages 1059-93, September. [Downloadable!] (restricted)
  3. Richard S Ruback, 2002. "Capital Cash Flows: A Simple Approach to Valuing Risky Cash Flows," Financial Management, Financial Management Association, vol. 31(2), Summer.
  4. Robert A. Taggart & Jr., 1991. "Consistent valuation and Cost of Capital Expressions With Corporate and Personal Taxes," Financial Management, Financial Management Association, vol. 20(3), Fall.
  5. Myers, Stewart C, 1974. "Interactions of Corporate Financing and Investment Decisions-Implications for Capital Budgeting," Journal of Finance, American Finance Association, vol. 29(1), pages 1-25, March. [Downloadable!] (restricted)
  6. Miller, Merton H, 1977. "Debt and Taxes," Journal of Finance, American Finance Association, vol. 32(2), pages 261-75, May. [Downloadable!] (restricted)
Full references

Cited by:
(explanations, Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.)

  1. Fernandez, Pablo, 2004. "80 common and uncommon errors in company valuation," IESE Research Papers D/550, IESE Business School. [Downloadable!]
    Other versions:
  2. Fernandez, Pablo, 2005. "The value of tax shields with a fixed book-value leverage ratio," IESE Research Papers D/612, IESE Business School. [Downloadable!]
  3. Cooper, Ian & Nyborg, Kjell G, 2005. "The Value of Tax Shields IS Equal to the Present Value of Tax Shields," CEPR Discussion Papers 5182, C.E.P.R. Discussion Papers. [Downloadable!] (restricted)
    Other versions:
  4. André Farber & Roland Gillet & Ariane Szafarz, 2005. "A general formula for the WACC," Working Papers CEB 05-012.RS, Université Libre de Bruxelles, Solvay Business School, Centre Emile Bernheim (CEB). [Downloadable!]
  5. Fernandez, Pablo, 2005. "Valuing companies with a fixed book-value leverage ratio," IESE Research Papers D/614, IESE Business School. [Downloadable!]
  6. Fernández, Pablo, 2002. "Company valuation methods. The most common errors in valuations," IESE Research Papers D/449, IESE Business School. [Downloadable!]
  7. Fernandez, Pablo, 2007. "A more realistic valuation: APV and WACC with constant book leverage ratio," IESE Research Papers D/715, IESE Business School. [Downloadable!]
  8. Fernandez, Pablo, 2006. "The correct value of tax shields: An analysis of 23 theories," IESE Research Papers D/628, IESE Business School. [Downloadable!]
  9. Fernandez, Pablo, 2003. "Levered and unlevered Beta," IESE Research Papers D/488, IESE Business School. [Downloadable!]
  10. Overesch, Michael & Voeller, Dennis, 2008. "The Impact of Personal and Corporate Taxation on Capital Structure Choices," ZEW Discussion Papers 08-020, ZEW - Zentrum für Europäische Wirtschaftsforschung / Center for European Economic Research. [Downloadable!]
  11. Ramesh Rao & Eric Stevens, 2006. "The Firm's Cost of Capital, Its Effective Marginal Tax Rate, and the Value of the Government's Tax Claim," Topics in Economic Analysis & Policy, Berkeley Electronic Press, vol. 6(1), pages 1465-1465. [Downloadable!] (restricted)
  12. Fernández , Pablo, 2002. "Valuing companies by cash flow discounting: Ten methods and nine theories," IESE Research Papers D/451, IESE Business School. [Downloadable!]
  13. Fernandez, Pablo, 2003. "Equivalence of ten different methods for valuing companies by cash flow discounting," IESE Research Papers D/524, IESE Business School. [Downloadable!]
  14. Fernandez, Pablo, 2005. "Reply to "Comment on the value of tax shields is NOT equal to the present value of tax shields"," IESE Research Papers D/579, IESE Business School. [Downloadable!]
    Other versions:
  15. Fernandez, Pablo, 2005. "The value of tax shields depends only on the net increases of debt," IESE Research Papers D/613, IESE Business School. [Downloadable!]
  16. Fernandez, Pablo, 2004. "Value of tax shields and the risk of the net increase of debt, The. Year 2004," IESE Research Papers D/544, IESE Business School. [Downloadable!]
  17. Fernandez, Pablo, 2004. "Reply to "The value of tax shields is equal to the present value of tax shields"," IESE Research Papers D/576, IESE Business School. [Downloadable!]
  18. Fernandez, Pablo, 2004. "Equivalence of ten different discounted cash flow valuation methods," IESE Research Papers D/549, IESE Business School. [Downloadable!]
  19. Fernandez, Pablo, 2004. "Comments on "A reconsideration of tax shield valuation" by Enrique R. Arzac and Lawrence R. Glosten," IESE Research Papers D/578, IESE Business School. [Downloadable!]
  20. Fernandez, Pablo, 2005. "Financial literature about discounted cash flow valuation," IESE Research Papers D/606, IESE Business School. [Downloadable!]
  21. Fernandez, Pablo, 2005. "The value of tax shields is not equal to the present value of tax shields: A correction," IESE Research Papers D/581, IESE Business School. [Downloadable!]
Statistics
Access and download statistics

Did you know? IDEAS also indexes book chapters.

This page was last updated on 2008-8-17.

This information is provided to you by IDEAS at the Department of Economics, College of Liberal Arts and Sciences, University of Connecticut using RePEc data on a server sponsored by the Society for Economic Dynamics.