In an APV analysis, how is the interest tax shield treated?

In an Adjusted Present Value (APV) analysis, the interest tax shield is treated by valuing it separately and then adding it at the end of the valuation process. This approach allows for a clearer understanding of the value added by the tax shield resulting from the debt financing.

The value of the interest tax shield represents the tax savings that a company enjoys due to its interest expenses. By treating this component separately, analysts can specifically quantify the benefits of leverage. After calculating the base value of the unlevered firm (the value of the business without any debt), the present value of the interest tax shield is calculated independently and then added to this unlevered value to arrive at the total firm value in an APV framework.

This separation is particularly useful because it allows analysts to assess the value attributable to the capital structure decisions independently of the operational performance of the business. Hence, by valuing the interest tax shield separately and incorporating it at the end of the analysis, it provides a comprehensive view of how leveraging the firm's capital structure impacts overall value.