The Value of Tax Shields is Equal to the Present Value of Tax Shields: Further Remarks

11 Pages Posted: 2 Dec 2004

See all articles by Ian A. Cooper

Ian A. Cooper

London Business School

Kjell G. Nyborg

University of Zurich - Department of Banking and Finance; Centre for Economic Policy Research (CEPR); Swiss Finance Institute

Date Written: November 2004

Abstract

Fernandez (2004a) and Fernandez (2004b) raise a series of interesting issues about the value of tax savings. However, the central claim, that the value of tax savings from debt cannot be calculated by simply taking the cash flows that arise from the tax saving and present-valuing them, is wrong. The reason is that the result is derived using a mixture of relationships among discount rates and values that cannot simultaneously hold. This paper extends the analysis in Cooper and Nyborg (2004) to the case where a growing version of the Modigliani and Miller debt policy is being followed. It shows that the result derived in Fernandez (2004a) requires the use of an assumption about discount rates that does not hold when this debt policy is being pursued. The paper also presents a general analysis of the assumptions used in Fernandez (2004a) and shows that there is no set of basic assumptions about the cash flows and debt policy of a firm under which all the assumptions hold simultaneously.

Keywords: Tax shields, leverage, adjusted present value

JEL Classification: G31, G32

Suggested Citation

Cooper, Ian Anthony and Nyborg, Kjell G., The Value of Tax Shields is Equal to the Present Value of Tax Shields: Further Remarks (November 2004). Available at SSRN: https://ssrn.com/abstract=625001 or http://dx.doi.org/10.2139/ssrn.625001

Ian Anthony Cooper (Contact Author)

London Business School ( email )

Sussex Place
Regent's Park
London, London NW1 4SA
United Kingdom
+44 171 262 5050 (Phone)

Kjell G. Nyborg

University of Zurich - Department of Banking and Finance ( email )

Plattenstrasse 14
Zürich, 8032
Switzerland
+41 (0)44 634 2980 (Phone)

Centre for Economic Policy Research (CEPR)

London
United Kingdom

Swiss Finance Institute

c/o University of Geneva
40, Bd du Pont-d'Arve
CH-1211 Geneva 4
Switzerland

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