Question

You know that the assets of a firm BIG are today worth 100mil. You reasonably feel that in a year they will be either worth 110mil or 90mil. You also know that a riskless zero coupon bond maturing in one year is offering today a yield of 5%. The firm has issued a zero-coupon bond that matures in one year and has a face value of 100mil. What should be the value of this corporate bond today? What should be its yield to maturity? What should be the value of the equity of the firm? Can you do a further analysis of this problem? How are the above affected by the yield of the one year zero and the volatility of the asset value?

answer all please!! especially last two questions

Answer 1

worth in good senario= 110 mil
Worth in bad senario =90 mil
future value =( 110+90)/2=100
Future value = 100

1. Present value = F/(1+r)^n
=100/1.05 =95.23

2. YTM = (FV/PV)^n - 1
= (100/95.23)^1 -1
=5.008% =5%
Since bond are zero coupon bond so interest rate is equal to YTM.

3. Total Worth =100 mil
Debt +equity =100
100+equity =100
Equity =100-100 =0
SO value of equity is zero.
The firm BIG is a debt firm and do not have equity.

4. In case if future value of the firm will be 110 mil, then firm equity will be 110 mil - 100 mil = 10 mil