Fethe's current value of operations, which is also its value of debt plus equity, is estimated to be $5 million. Fethe has $2 million face value, zero coupon debt that is due in 2 years. The risk-free rate is 6%, and the standard deviation of returns for companies similar to Fethe is 50%. Fethe's owners view their equity investment as an option and they would like to know the value oftheir investment. a. Using the Black-Scholes option pricing model, how much isFethe's equity worth? In your calculations round normaldistribution values to 4 decimal places. Round your answer to twodecimal places. $__________ million ? b.How much is the debt worth today? What is its yield? Roundyour answer for the debt worth to two decimal places. Round youranswer for the yield on the debt to one decimal place. Debt worth today: $ __________million Yield on the debt: _________% c. How would the equity value and the yield on the debt change if Fethe's managers could use risk management techniques to reduceits volatility to 35%?
Fethe's current value of operations, which is also its value of debt plus equity, is estimated to be $5 million. Fethe has $2 million face value, zero coupon debt that is due in 2 years. The risk-free rate is 6%, and the standard deviation of returns for companies similar to Fethe is 50%. Fethe's owners view their equity investment as an option and they would like to know the value oftheir investment. a. Using the Black-Scholes option pricing model, how much isFethe's equity worth? In your calculations round normaldistribution values to 4 decimal places. Round your answer to twodecimal places. $__________ million ? b.How much is the debt worth today? What is its yield? Roundyour answer for the debt worth to two decimal places. Round youranswer for the yield on the debt to one decimal place. Debt worth today: $ __________million Yield on the debt: _________% c. How would the equity value and the yield on the debt change if Fethe's managers could use risk management techniques to reduceits volatility to 35%?
Essentials Of Investments
11th Edition
ISBN:9781260013924
Author:Bodie, Zvi, Kane, Alex, MARCUS, Alan J.
Publisher:Bodie, Zvi, Kane, Alex, MARCUS, Alan J.
Chapter1: Investments: Background And Issues
Section: Chapter Questions
Problem 1PS
Related questions
Question
Equity Viewed as an Option
A. Fethe Inc. is a custom manufacturer of guitars, mandolins,and other stringed instruments and is located near Knoxville,Tennessee. Fethe's current value of operations, which is also its value of debt plus equity, is estimated to be $5 million. Fethe has $2 million face value, zero coupon debt that is due in 2 years. The risk-free rate is 6%, and the standard deviation of returns for companies similar to Fethe is 50%. Fethe's owners view their equity investment as an option and they would like to know the value oftheir investment.
a. Using the Black-Scholes option pricing model, how much isFethe's equity worth? In your calculations round normaldistribution values to 4 decimal places. Round your answer to twodecimal places.
$__________ million ?
b.How much is the debt worth today? What is its yield? Roundyour answer for the debt worth to two decimal places. Round youranswer for the yield on the debt to one decimal place.
Debt worth today: $ __________million
Yield on the debt: _________%
c. How would the equity value and the yield on the debt change if Fethe's managers could use risk management techniques to reduceits volatility to 35%?
Expert Solution
This question has been solved!
Explore an expertly crafted, step-by-step solution for a thorough understanding of key concepts.
This is a popular solution!
Trending now
This is a popular solution!
Step by step
Solved in 2 steps
Knowledge Booster
Learn more about
Need a deep-dive on the concept behind this application? Look no further. Learn more about this topic, finance and related others by exploring similar questions and additional content below.Recommended textbooks for you
Essentials Of Investments
Finance
ISBN:
9781260013924
Author:
Bodie, Zvi, Kane, Alex, MARCUS, Alan J.
Publisher:
Mcgraw-hill Education,
Essentials Of Investments
Finance
ISBN:
9781260013924
Author:
Bodie, Zvi, Kane, Alex, MARCUS, Alan J.
Publisher:
Mcgraw-hill Education,
Foundations Of Finance
Finance
ISBN:
9780134897264
Author:
KEOWN, Arthur J., Martin, John D., PETTY, J. William
Publisher:
Pearson,
Fundamentals of Financial Management (MindTap Cou…
Finance
ISBN:
9781337395250
Author:
Eugene F. Brigham, Joel F. Houston
Publisher:
Cengage Learning
Corporate Finance (The Mcgraw-hill/Irwin Series i…
Finance
ISBN:
9780077861759
Author:
Stephen A. Ross Franco Modigliani Professor of Financial Economics Professor, Randolph W Westerfield Robert R. Dockson Deans Chair in Bus. Admin., Jeffrey Jaffe, Bradford D Jordan Professor
Publisher:
McGraw-Hill Education