(a) 0.0/10.0 points (graded) Xenon Inc. has 200,000 shares of equity outstanding, with each share currently valued at $38.00. Based on its returns over the last year, you estimate the volatility of equity to be 33.19%. The risk-free rate is 1.69% (continuously compounded), and the expected return on Xenon's equity is 5.55% (continuously compounded). The company also has outstanding $5.00 million face value in zero coupon bonds that all mature in two years. Of that total face value, $3.00 million is senior and $2.00 million is subordinated. (That means that the end of the two years, if total assets are less than $5.00 million coming due, then the holders of the senior debt must recover what they are owed in full before the subordinated debt holders receive any payment.) (a) Using Merton's model, what is the current market value of assets of the firm? What is the volatility of assets? Do this by solving simultaneously the two equations relating equity value and volatility to asset value and volatility. Hint: You need to solve this numerically, either by trial and error or using a root-finder like Solver in Excel. Current market value of assets (in unit of million dollars): million Volatility of assets (in unit of percentage points): % (b) 0.0/10.0 points (graded) (b) Again using Merton's model, estimate the present value of the senior debt and the subordinated debt. Present value of the senior debt (in unit of million dollars): million Present value of the subordinated debt (in unit of million dollars): million (a) 0.0/10.0 points (graded) Xenon Inc. has 200,000 shares of equity outstanding, with each share currently valued at $38.00. Based on its returns over the last year, you estimate the volatility of equity to be 33.19%. The risk-free rate is 1.69% (continuously compounded), and the expected return on Xenon's equity is 5.55% (continuously compounded). The company also has outstanding $5.00 million face value in zero coupon bonds that all mature in two years. Of that total face value, $3.00 million is senior and $2.00 million is subordinated. (That means that the end of the two years, if total assets are less than $5.00 million coming due, then the holders of the senior debt must recover what they are owed in full before the subordinated debt holders receive any payment.) (a) Using Merton's model, what is the current market value of assets of the firm? What is the volatility of assets? Do this by solving simultaneously the two equations relating equity value and volatility to asset value and volatility. Hint: You need to solve this numerically, either by trial and error or using a root-finder like Solver in Excel. Current market value of assets (in unit of million dollars): million Volatility of assets (in unit of percentage points): % (b) 0.0/10.0 points (graded) (b) Again using Merton's model, estimate the present value of the senior debt and the subordinated debt. Present value of the senior debt (in unit of million dollars): million Present value of the subordinated debt (in unit of million dollars): million
