Wigdor Manufacturing Is Currently All Equity fiNanced, Had EBIT of £2

Essay

Wigdor Manufacturing is currently all equity financed, had EBIT of £2 million, and is in the 34% tax bracket.Louis, the company's founder, is the lone shareholder.Assume that all earnings are paid out as dividends.Now consider the fact that Louis must pay personal tax on the firm's cash flow.Louis pays taxes on interest at a rate of 33%, but pays taxes on dividends at a rate of 28%. If the firm were to convert £4 million of equity into debt at a cost of 10%, calculate the total cash flow to Louis after he pays personal taxes.Compare this to Louis' total cash flow after personal taxes if the firm remains unlevered.