The value of tax shields IS equal to the present value of tax shields
Fernandez (2004b) argues that the present value effect of the tax saving on debt cannot be calculated as simply the present value of the tax shields associated with interest. This contradicts standard results in the literature. It implies that, even though the capital market is complete, value-additivity is violated. As a consequence, adjusted present value formulae of a standard sort cannot be used. Also, Fernandez’s argument implies that the value of the tax saving differs from conventional estimates by a considerable amount. We reconcile Fernandez’s results with standard valuation formulae for the tax saving from debt. We show that, as one would expect, the value of the debt tax saving is the present value of the tax savings from interest. The apparent violation of value-additivity in the Fernandez paper comes from mixing the Miles and Ezzell and Miller and Modigliani leverage policies.
|Date of creation:||22 Dec 2005|
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- Cooper, Ian & Nyborg, Kjell G, 2008.
"Tax-Adjusted Discount Rates with Investor Taxes and Risky Debt,"
CEPR Discussion Papers
6646, C.E.P.R. Discussion Papers.
- Ian A. Cooper & Kjell G. Nyborg, 2008. "Tax-Adjusted Discount Rates with Investor Taxes and Risky Debt," Financial Management, Financial Management Association International, vol. 37(2), pages 365-379, 06.
- Cooper, Ian A. & Nyborg, Kjell G., 2005. "Tax-adjusted discount rates with investor taxes and risky debt," Discussion Papers 2005/15, Department of Business and Management Science, Norwegian School of Economics, revised 20 Sep 2007.
- Fernandez, Pablo, 2004.
"The value of tax shields is NOT equal to the present value of tax shields,"
Journal of Financial Economics,
Elsevier, vol. 73(1), pages 145-165, July.
- Fernández , Pablo, 2002. "The value of tax shields is not equal to the present value of tax shields," IESE Research Papers D/459, IESE Business School.
- 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.
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- Mark Grinblatt & Jun Liu, 2002.
"Debt Policy, Corporate Taxes, and Discount Rates,"
NBER Working Papers
9353, National Bureau of Economic Research, Inc.
- Grinblatt, Mark & Liu, Jun, 2002. "Debt Policy, Corporate Taxes, and Discount Rates," University of California at Los Angeles, Anderson Graduate School of Management qt7dx622kj, Anderson Graduate School of Management, UCLA.
- Miles, James A & Ezzell, John R, 1985. " Reformulating Tax Shield Valuation: A Note," Journal of Finance, American Finance Association, vol. 40(5), pages 1485-1492, December.
- Enrique R. Arzac & Lawrence R. Glosten, 2005. "A Reconsideration of Tax Shield Valuation," European Financial Management, European Financial Management Association, vol. 11(4), pages 453-461.
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- 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.
- Richard S Ruback, 2002. "Capital Cash Flows: A Simple Approach to Valuing Risky Cash Flows," Financial Management, Financial Management Association, vol. 31(2), Summer.
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