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Analyze the value of equity in a company

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Reference no: EM133121982

You have been asked to analyze the value of equity in a company that has the following features:

  • The earnings before interest and taxes is $25 million, and the corporate taxrate is 40%.
  • The earnings are expected to grow 4% a year in perpetuity, and the return oncapital is 10%. The cost of capital of comparable firms is 9%.
  • The firm has two types of debt outstanding-two-year zero coupon bondswith a face value of $250 million and bank debt with 10 years to maturitywith a face value of $250 million. (The duration of this debt is four years.)
  • The firm is in two businesses-food processing and auto repair. The averagestandard deviation in firm value for firms in food processing is 25%, whereasthe standard deviation for firms in auto repair is 40%. The correlation be-tween the businesses is 0.5.
  • The riskless rate is 7%.

Use the option pricing model to value equity as an option.

Reference no: EM133121982

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