Assignment:
From Corporate Finance 9/e (Ross, Westerfield, Jaffe) pg 552
Company plans to expand in one year.
Has outstanding bond with face value of $34 million due in one year.
Bond covenants prohibit issuance of additional debt.
Expansion will be equity financed at cost of $8.4 million.
State of comapny in three states if economy with or without expansion:
Economic growth probability with expansion without expansion
low .30 $30,000,000 $33,000,000
normal .50 35,000,000 46,000,000
high .20 51,000,000 64,000,000
Calculate:
Problem 1. Expected value of company in one year, with and without expansion
Problem 2. Expected value of debt in one year, with and without expansion
Problem 3. In one year how much value creation from expansion? How much for stockholder? Bondholder?
Problem 4. If company does not expand, what happens to price of bonds? What happens to price if they do expand?
Problem 5. If no expansion, what are implications for future borrowing needs? What are implications if it does expand?
Problem 6. How would answer be affected if expansion were financed with cash on hand instead of new equity?