Fundamentals of Corporate Finance with Connect Access Card
11th Edition
ISBN: 9781259418952
Author: Stephen A. Ross Franco Modigliani Professor of Financial Economics Professor, Randolph W Westerfield Robert R. Dockson Deans Chair in Bus. Admin., Bradford D Jordan Professor
Publisher: McGraw-Hill Education
expand_more
expand_more
format_list_bulleted
Question
Chapter 25, Problem 16QP
Summary Introduction
To compute: The market value for the debt and equity of the firm.
Introduction:
The Black-Scholes is the model of pricing that is used to determine the theoretical value or fair price for a put option or call option depending on six variables like the type of option, volatility, strike price, underlying stock price, risk-free rate, and time.
Expert Solution & Answer
Want to see the full answer?
Check out a sample textbook solutionStudents have asked these similar questions
Sunburn Sunscreen has a zero coupon bond issue outstanding with a face value of
$11,000 that matures in one year. The current market value of the firm's assets is $13,100.
The standard deviation of the return on the firm's assets is 29 percent per year, and the
annual risk-free rate is 5 percent per year, compounded continuously. Based on the
Black-Scholes model, what is the market value of the firm's equity and debt? (Do not
round intermediate calculations and round your answers to 2 decimal places, e.g.,
32.16.)
Equity
Debt
Sunburn Sunscreen has a zero coupon bond issue outstanding with a $9,000 face value that matures in one year. The current market value of the firm's assets is $9,600. The standard deviation of the return on the firm's assets is 36 percent per year, and the annual risk-free rate is 7 percent per year, compounded continuously. Based on the Black Scholes model, what is the market value of firm’s equity and the market value of the firm's debt?
You are thinking about buying the debt in a private firm that has very similar risk and capital structure as SleazCo. SleazeCo has zero-coupon debt that requires them to pay back $160,000,000 three years from now. Given this loan, the market value of SleazCo’s equity is $25,000,000 and has a volatility of 80% per year. The annual risk-free rate is .02 at all maturities. SleazeCo has no other debt. What are the estimates of the following values for SleazCo based on the Merton Model?
Volatility of Assets () = _______________
Value of Assets (V0) = _________________
Market Value of the Debt now = _________________
Value of Debt if it is risk free = _________________
Expected Loss from default = __________________
Probability of default on the debt = _______________
Expected recovery rate on the debt = ______________
Chapter 25 Solutions
Fundamentals of Corporate Finance with Connect Access Card
Ch. 25.1 - Prob. 25.1ACQCh. 25.1 - Prob. 25.1BCQCh. 25.2 - Prob. 25.2ACQCh. 25.2 - Prob. 25.2BCQCh. 25.3 - Prob. 25.3ACQCh. 25.3 - Prob. 25.3BCQCh. 25.4 - Why do we say that the equity in a leveraged firm...Ch. 25.4 - Prob. 25.4BCQCh. 25.5 - Prob. 25.5ACQCh. 25.5 - Prob. 25.5BCQ
Ch. 25 - Prob. 25.1CTFCh. 25 - Prob. 25.3CTFCh. 25 - Prob. 1CRCTCh. 25 - Prob. 2CRCTCh. 25 - Prob. 3CRCTCh. 25 - Prob. 4CRCTCh. 25 - Prob. 5CRCTCh. 25 - Prob. 6CRCTCh. 25 - Prob. 7CRCTCh. 25 - Prob. 8CRCTCh. 25 - Prob. 9CRCTCh. 25 - Prob. 10CRCTCh. 25 - Prob. 1QPCh. 25 - Prob. 2QPCh. 25 - PutCall Parity [LO1] A stock is currently selling...Ch. 25 - PutCall Parity [LO1] A put option that expires in...Ch. 25 - PutCall Parity [LO1] A put option and a call...Ch. 25 - PutCall Parity [LO1] A put option and call option...Ch. 25 - BlackScholes [LO2] What are the prices of a call...Ch. 25 - Delta [LO2] What are the deltas of a call option...Ch. 25 - BlackScholes and Asset Value [LO4] You own a lot...Ch. 25 - BlackScholes and Asset Value [L04] In the previous...Ch. 25 - Time Value of Options [LO2] You are given the...Ch. 25 - PutCall Parity [LO1] A call option with an...Ch. 25 - BlackScholes [LO2] A call option matures in six...Ch. 25 - BlackScholes [LO2] A call option has an exercise...Ch. 25 - BlackScholes [LO2] A stock is currently priced at...Ch. 25 - Prob. 16QPCh. 25 - Equity as an Option and NPV [LO4] Suppose the firm...Ch. 25 - Equity as an Option [LO4] Frostbite Thermalwear...Ch. 25 - Prob. 19QPCh. 25 - Prob. 20QPCh. 25 - Prob. 21QPCh. 25 - Prob. 22QPCh. 25 - BlackScholes and Dividends [LO2] In addition to...Ch. 25 - PutCall Parity and Dividends [LO1] The putcall...Ch. 25 - Put Delta [LO2] In the chapter, we noted that the...Ch. 25 - BlackScholes Put Pricing Model [LO2] Use the...Ch. 25 - BlackScholes [LO2] A stock is currently priced at...Ch. 25 - Delta [LO2] You purchase one call and sell one put...Ch. 25 - Prob. 1MCh. 25 - Prob. 2MCh. 25 - Prob. 3MCh. 25 - Prob. 4MCh. 25 - Prob. 5MCh. 25 - Prob. 6M
Knowledge Booster
Similar questions
- A firm's common stock has just paid a $3.00 dividend (Do), which is expected to grow at a constant rate of 6.0 percent each year. The beta of this stock is 1.30, the risk-free rate is 4.0 percent, and the expected return on the market is 10.0 percent. Determine how much you should be willing to pay (the intrinsic value) for this stock today. Assume that CAPM is the correct model for required returns. 536.55 $54.83 $63.97 $73:10 545.69arrow_forwardsunburn sunscreen has a zero coupon bond issue outstanding with a $21,000 face value that matures in one year. the current market value of the firm's assets is $22,800. The standard deviation of the return on the firm's assets is 26 percent per year, and the annual risk-free rate is 5 percent per year, compounded continuously. based on the black-scholes model, what is the market value of the firm's equity and debt?arrow_forwardLiu Industries is a highly levered firm. Suppose there is a large probability that Liu will default on its debt. The value of Lius operations is 4 million. The firms debt consists of 1-year, zero coupon bonds with a face value of 2 million. Lius volatility, , is 0.60, and the risk-free rate rRF is 6%. Because Lius debt is risky, its equity is like a call option and can be valued with the Black-Scholes Option Pricing Model (OPM). (See Chapter 8 for details of the OPM.) (1) What are the values of Lius stock and debt? What is the yield on the debt? (2) What are the values of Lius stock and debt for volatilities of 0.40 and 0.80? What are yields on the debt? (3) What incentives might the manager of Liu have if she understands the relationship between equity value and volatility? What might debtholders do in response?arrow_forward
- You are considering an investment in Keller Corp's stock, which is expected to pay a dividend of $0.90 a share at the end of the year and has a beta of 0.40. The risk-free rate is 2.40%, and the market risk premium is 4.40%. Keller currently sells for $103.00 a share, and its dividend is expected to grow at some constant rate g. Assuming the market is in equilibrium, what does the market believe will be the stock price at the end of 5 years? $115.55 $121.07 $125.05arrow_forwardSuppose that we have a firm whose current value is Kshs 1000 and that (given a multiplicative stochastic process) its value could go up by 12.75% or down by 11.31% and a standard deviation of 12% per annum and the risk free rate is 8%. The equity of this firm is subordinated to debt that has a face value of Kshs. 800 maturing in three years and that pays no coupon. What is the value of an American call option written on the equity if its exercise price is Kshs. 400 and its maturity is three years?arrow_forwardThe market expected return is 14% with a standard deviation of 18%. The risk-free rate is 6%. Security XYZ has just paid a dividend of $1 and has a current price of $13.95. What is the beta of Security XYZ if its dividend is expected to grow at 6% per year indefinitely? ○ 0.90 ○ 0.85 O 0.95 O 1.05arrow_forward
- Frostbite Thermalwear has a zero coupon bond issue outstanding with a face value of $22,000 that matures in one year. The current market value of the firm's assets is $24,000. The standard deviation of the return on the firm's assets is 52 percent per year, and the annual risk-free rate is 6 percent per year, compounded continuously. Based on the Black-Scholes model, what is the market value of the firm's equity? Equity Based on the Black-Scholes model, what is the market value of the firm's debt? Debt What is the firm's continuously compounded cost of debt? Cost of debtarrow_forwardYou are considering an investment in General Electric’s common stock. The stock is expected to pay a dividend of $5 a share at the end of this year; its beta is 0.9; the risk-free rate is 5.6%; and the market risk premium is 6%. The dividend is expected to grow at some constant rate g, and the stock currently sells for $25 a share. Assuming the market is in equilibrium, what the market believes will be the stock’s price at the end of 3 years &5 Years?arrow_forwardZincon Industries has a beta of 1.45. The risk-free rate is 8 percent and the expected returnon the market portfolio is 14 percent. The investors required rate of return is 15%. The companycurrently pays a dividend of $2 a share, and investors expect it to experience a growth in dividends of 10 percent per annum for many years to come.a. What is the stock’s required rate of return using CAPM?b. What is the stock’s present market price per share, assuming this required return?c. What would happen to the required return and to market price per share if the beta were 0.80?(Assume that all else stays the same.)arrow_forward
- You Answered orrect Answer A company is promising a coupon payment of $46 in 2.03 years. A risk free government bond of the same maturity is yielding 1.66% per year. The credit spread for the promised payment by the company is 1.24% per year. Both the yield and the spread are stated on a continuously compounded basis. What is the present value of the expected loss on the promised payment? 1.11 margin of error +/-50arrow_forwardFrostbite thermalwear has a zero coupon bond issue outstanding with a face value of 18,000 that matures in one year. The curent market value of the firm assets is 22,000. The standard deviation of the return on the firm assets is 51 percent per year, and the annual risk free rate is 7 percent per year, compounded continuously. what is the Market value of the firm's equity? What is the Market value of the firm's debt?arrow_forwardIf the financial Manager of Evergreen wants to decrease its cost of capital by adding more debt to its capital structure and arrive at a debt-equity ratio of 0.60. If its debt is in the form of a 6% semiannual bond issue outstanding with 15 years to maturity. The bond currently sells for 95% of its face value of $1000. On the other hand, suppose the risk-free rate is 3% and the market portfolio has an expected return of 9% and the company has a beta of 2. If the tax rate is 40%. Question 1 Calculate the company,s after-tax cost of debt. Question 2 Calculate the company,s cost of equity. Question 3 What would be the company’s overall cost of capital (WACC) at the targeted capital structure of debt equity ratio of 0.60? Question 4 If the company achieves this new cost of capital, would your investment decision change regarding the previous two investment opportunities? Explain your answer.arrow_forward
arrow_back_ios
SEE MORE QUESTIONS
arrow_forward_ios
Recommended textbooks for you
- EBK CONTEMPORARY FINANCIAL MANAGEMENTFinanceISBN:9781337514835Author:MOYERPublisher:CENGAGE LEARNING - CONSIGNMENT
EBK CONTEMPORARY FINANCIAL MANAGEMENT
Finance
ISBN:9781337514835
Author:MOYER
Publisher:CENGAGE LEARNING - CONSIGNMENT