American Home Products Corp. Case Analysis Essay

Good Essays
American Home Product (AHP) was founded in 1926 with the merging of several small home product companies. As the company expanded in the 1930’s, it acquired companies in different businesses. After World War II, the company had four lines of businesses: prescription drugs, packaged (over-the-counter) drugs, food products, and housewares and household products. Although the name “American Home Product” has never appeared on its products, the firm produces many well-known brands in the market, such as Anacin, Woolite and Chef Boyardee.
Starting from the 1960’s, the firm caught a lot of attention with its almost debt-free capital structure. Its chief executive, William F. Laporte, enforced on top-down management system and
…show more content…
2. As stated, will reduce taxable income due to interest tax savings.
3. For firm's financial discipline, the firm has duty to pay the debt, managers will avoid to spend firm's capital on wasteful expenditures.

2. a. What is the PV of tax benefits from the three restructuring options given in Exhibit 3? Assume that the company’s debt is perpetual debt.

When a firm uses debt, the interest tax shield provides a corporate tax benefit each year. In order to determine the benefit of leverage for the value of the firm, we must compute the present value of the stream of future interest tax shields the firm will receive.
In this special case, we assume that American Home Products issues debt and plans to keep the dollar amount of its debt constant forever. This is referred to as perpetual debt. Therefore, the company has a fixed dollar amount of outstanding debt, rather than an amount that changes with the size of the firm. For example, the company might issue a perpetual bond, making only interest payments but never repaying the principal. More realistically, we suppose that the firm issues short-term debt such as a five-year coupon bond. At the time the principal is due, the company raises the money needed to pay it by issuing new debt. In this way, the firm never pays off the principal but simply refinances it whenever it comes due. In this situation, the debt is effectively permanent.
Important underlying assumptions in these calculations are that the interest
Get Access