Question
In its negotiations with its investment bankers, Elle Co. has reached an agreement whereby the investment bankers receive a smaller fee now (8% of gross
In its negotiations with its investment bankers, Elle Co. has reached an agreement whereby the investment bankers receive a smaller fee now (8% of gross proceeds versus their normal 12%) but also receive a 2-years option to purchase an additional 100,000 shares at $6.50 per share. Elle Co. will go public by selling $7,000,000 of new common stock. The investment bankers expect to exercise the option and purchase the 100,000 shares in exactly two years, when the stock price is forecasted to be $12.50 per share. However, there is a chance that the stock price will actually be $18.00 per share two years from now. If the $18 price occurs, what would the present value of the entire underwriting compensation be? Assume that the investment bankers' required return on such arrangements is 14%, and ignore taxes.
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