Problem
Comapny A and Company B are identical firms, except that they have different Debt/Equity ratios. In the coming year both firms are expected to generate EBIT of $1M if economic expansion continues or EBIT of $600,000 in case of a recession. The probability of a recession is 30% , with a 70% probability of continued expansion. Company A has $800,000 of debt due in one year from now. Company B has $500,000 debt due in one year. Neither firm pays taxes. and bankruptcy is not expected for either firm during the next year. The appropriate discount rate is 15%. What is the value of equity for Company A and Company B?