Hema Corp. is an all-equity firm with a current market value of

$1,280

million (i.e.,

$1.28

billion), and will be worth

$1,152

million or

$1,792

million in one year. The risk-free interest rate is

5%.

Suppose Hema Corp. issues zero-coupon, one-year debt with a face value of

$1,344

million, and uses the proceeds to pay a special dividend to shareholders. Suppose that in the event Hema Corp. defaults,

$90

million of its value will be lost to bankruptcy costs. Assume there are no other market imperfections.

a. What is the present value of these bankruptcy costs, and what is their delta with respect to the firm's assets?

b. In this case, what is the value and yield of Hema's debt?

c. In this case, what is the value of Hema's equity before the dividend is paid? What is the value of equity just after the dividend is paid?