Consider an entrepreneur with the following investment opportunity for an initial investment of $1,100 this year, a project will generate cash flows of either $1,650 next year or $1,375 next year. The cash flows depend on whether the eco strong or weak during the year, with both scenarios being equally likely. The market value of the firm's unlevered equity today is $1,350.45. Investors demand a risk promuovere current risk-free interest rate of 3% to invest in this pro Given the market risk of the investment, the propriate risk premium is 9%. The entrepreneur decides to raise part of the initial capital sing debt. Suppose the funds the project by borrowing $700, in addition to selling equity. The dette risk-free a. According to MM Proposition, what is the value of the levered equity? What are its cash flows in the economy is strong? What are is cash flows if the economy is weak? b. What is the retum on equity for the unlevered and the levered investment? What is its expected retum for the levered and unlevered investment? c. What is the risk premium of equity for the unlevered and the levered investment? What is the sensitivity of the unlevered and levered equity return to systematic risk? How does the levered sensitivity compare to the sensitivity of the un equity return to systematic risk? How does itslevered risk premium compare to the unlevered risk premium? d. What is the dete-equity ratio of the investment in the levered case? What is the firm's WACC in the levered case? Consider an entrepreneur with the following investment opportunity. For an initial investment of $1,100 this year, a project will generate cash flows of either $1,650 next year or $1,375 next year. The cash flows depend on whether the economy is strong or weak during the year, with both scenarios being equally likely. The market value of the firm's unlevered equity today is $1,350.45. Investors demand a risk premium over the current risk-free interest rate of 3% to invest in this project. Given the market risk of the investment, the appropriate risk premium is 9%. The entrepreneur decides to raise part of the initial capital using debt. Suppose she funds the project by borrowing $700, in addition to selling equity. The debt is risk-free. a. According to MM Proposition I, what is the value of the levered equity? What are its cash flows if the economy is strong? What are its cash flows if the economy is weak? b. What is the return on equity for the unlevered and the levered investment? What is its expected return for the levered and unlevered investment? c. What is the risk premium of equity for the unlevered and the lovered investment? What is the sensitivity of the unlevered and levered equity return to systematic risk? How does the levered sensitivity compare to the sensitivity of the unlevered equity return to systematic risk? How does its levered risk premium compare to the unlevered risk premium? d. What is the debt-equity ratio of the investment in the levered case? a. According to MM Proposition what is the value of the levered equity? What are its cash flows if the economy is strong? What are its cash flows if the economy is weak? According to MM Proposition I, the value of the levered equity is $ (Round to the nearest cent.)
