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Assume two companies in the same risk class and neither is expected to grow. Taxation is to be ignored. Each earns 1 million from operations.
Assume two companies in the same risk class and neither is expected to grow. Taxation is to be ignored. Each earns 1 million from operations. Firm A is levered having debt of 2 million earning interest of 10% pa. Firm B is unlevered and is valued at 5 million. All earnings are paid out as dividends. Currently the two firms are valued at A - 5M and B - 6 M. Demonstrate the arbitrage process to bring the equilibrium in the market.
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