Question
Salad Oil Storage (SOS) Company has financed a large part of its operations with long-term debt. There is a significant risk of default as the
Salad Oil Storage (SOS) Company has financed a large part of its operations with long-term debt. There is a significant risk of default as the salad oil storage business has taken a downturn; however, while the market value of the firm is below the face value of the debt the company is not yet in technical default on any of its debt. Explain the following: a. Why would SOS stockholders lose by investing in a positive NPV project financed by new equity? b. Why would SOS stockholders be interested in investing the remaining cash of the firm in a risky project even if it had an expected negative NPV? c. Why would SOS stockholders gain from paying themselves a dividend? How would bondholders feel about this? d. How do bondholders protect themselves from these types of actions?
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