Suppose that you are the CEO of a firm that has $100m in assets, and it is financed by $90m debt and $10 equity. Assume that the YTM on the debt is 0%. You are considering investing all the firm's assets in one of two projects (the projects are mutually exclusive). Project A has RoA of 1% and no risk. Project B pays RoA=20% half the time, and has a negative 22% return the rest of the time. Bondholders and equity holders are large institutional investors that are risk-neutral -- they compare outcomes based on average returns [1] Compute the RoE for both projects. (2) Compute the rate of return for bondholders in each case. [3] What should the CEO do? Remember the CEO works for the shareholders of the company Suppose that you are the CEO of a firm that has $100m in assets, and it is financed by $90m debt and $10 equity. Assume that the YTM on the debt is 0%. You are considering investing all the firm's assets in one of two projects (the projects are mutually exclusive). Project A has RoA of 1% and no risk. Project B pays RoA=20% half the time, and has a negative 22% return the rest of the time. Bondholders and equity holders are large institutional investors that are risk-neutral -- they compare outcomes based on average returns [1] Compute the RoE for both projects. (2) Compute the rate of return for bondholders in each case. [3] What should the CEO do? Remember the CEO works for the shareholders of the company