Question

Homework #5 Cost of Capital A. (20 points) The possible outcomes of a firm's value at time 1 are as below. At time 1, the debtholders are entitled $8 payment from the firm. In other words, the firm owes its bondholders $8 at time 1. The stockholders will receive whatever is left over after the bondholders have been paid. In the event the firm does not generate enough value to pay the bondholders at time 1, the firm is insolvent and the bondholders will take whatever the firm has. Please fill out the payoffs to bondholders and stockholders under each outcome. Pay-offs to the security holders: if debt owed = $8 Probability Firm Value at Bondholder Stockholder Time 1 20% 20% $10 50% $14 $? 10% $15 $5 $? $? $?

Answer 1

IF ANY QUERY, FEEL FREE TO ASK Solution $2 Payoff to Bondholder and Shareholder Firm Value at Probablity Bondholder Shareholder Time 1 20% $5 $5 $0 20% $10 $8 50% $14 $8 $6 10% $15 $8 $7 where, Bondholder payoff = If Firm Value < $8, then firm value else $8 Shareholder payoff = Firm Value - Bondholder payoff