HW #11. Con

Consider the business below:AssetsLiabilitiesBonds: $500Bank loan: $400Net worth: $100a) What is the leverage of this business? b) If bonds pay 5% and bank loans cost 4%i) what are the annual expenses?ii) what is the annual income?iii) what is the return on equity?c) Assuming the same interest rates in (b) above, consider if the business now borrowed enough to double its leverage:i) draw the new balance sheetii) what would new expenses be?iii) what would new income be?iv) what would the ROE be?d) If the business de-leveraged completely (i.e. sold off enough bonds to pay off the bank loan), i) draw the new balance sheetii) calculate expensesiii) calculate incomeiv) calculate ROEe) If 10% of the loan portfolio (given the balance sheet in part (a) above) goes bad (thus paying no interest, and making it impossible to recover the principal)i) draw the new balance sheetii) what are the current expenses (including the loss of capital)iii) what is the current income?iv) what is the new level of equity?v) what is the rate of return on the original equity? (Hint: ROE = (Income - Expenses)/(Original Equity)f) How big of a shock to asset values, in percentage terms, would wipe out shareholder capitali) in (a), above? ii) in (c) above?

HW 11 1. Consider the business below: Assets Bonds: $500 Liabilities Bank loan: $400 Net worth: $100 a) What is the leverage of this business? b) If bonds pay 5% and bank loans cost 4% i) what are the annual expenses? ii) what is the annual income? iii) what is the return on equity? c) Assuming the same interest rates in (b) above, consider if the business now borrowed enough to double its leverage: ) draw the new balance sheet ii) what would new expenses be? ill) what would new income be? iv) what would the ROE be? d) If the business de leveraged completely fi.e. sold off enough bonds to pay off the bank loan), i) draw the new balance sheet ii) calculate expenses ill) calculate income iv) calculate ROE e) If 10% of the loan portfolio (given the balance sheet in part (a) above) "goes bad" (thus paying no interest, and making it impossible to recover the principal) 1) draw the new balance sheet ii) what are the current expenses (including the loss of capital) Hi) what is the current income? iv) what is the new level of equity? v) what is the rate of return on the original equity? (Hint: ROE = (Income - Expenses)/(Original Equity) f) How big of a shock to asset values, in percentage terms, would wipe out shareholder capital i) in (a), above? ii) in (c) above