Risky Tax Shields and Risky Debt: A Monte Carlo Approach

Ignacio Velez-Pareja ()

No 7184, Proyecciones Financieras y Valoración from Master Consultores

Abstract: I present a set of conditions for defining risky debt associated to cash flow and not to accounting earnings. I explain why realization of tax shields for finite cash flows in any period of time t are correlated to Earnings before Interest and Taxes and are not correlated to interest expenses at time t. Using Monte Carlo Simulation I explore the behavior of the four basic cash flows, Earnings before Interest and Taxes plus Other income OI, and interest charges, with eight scenarios applied to a financial planning model. I conclude that the risk of tax shields is Ku, the unlevered cost of equity.

Keywords: Weighted Average Cost of Capital; WACC; firm valuation; tax shields; cash flows; Monte Carlo Simulation; discount rate for tax shields; risky debt; risk of tax shields (search for similar items in EconPapers)
JEL-codes: G12 G31 J33 M21 M40 M41 (search for similar items in EconPapers)
Pages: 25
Date: 2010-06-28
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Persistent link: https://EconPapers.repec.org/RePEc:col:000463:007184

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