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A company's assets will have a value, one year from now, equal to $ 4 5 millions if the economic conditions are good or to

A company's assets will have a value, one year from now, equal to $45
millions if the economic conditions are good or to $8 millions if the conditions
are bad, and the two scenarios are equally likely. The company currently has
no debt and, after one year, it will terminate its operations. Today (that is one
year before terminating its operation), the company has decided to go through
with a recapitalization issuing a zero coupon bond with face value $10 millions
and maturity one year and buying back its own shares with the proceeds. The
expected return required by bond holders is 5.45%. In case of bankruptcy there
will be estimated direct bankruptcy cost for $564,000 and indirect bankruptcy
costs for $789,000. The return on levered equity after the recapitalization will
be 15%. At the moment (that is before the recapitalization) the company has
100,000 shares outstanding. Assume no taxation.
(a) What is the value of levered equity? [15,217,391.30]
(b) What is the amount of money raised from bond holders when the bond
is issued? [7,893,314.30]
(c) How many shares will be bought back? [34,154.36]

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