Gladstone Corporation is about to launch a new product. Depending on the success

Question

Gladstone Corporation is about to launch a new product. Depending on the success of the new product, Gladstone may have one of four values next year: $151 million, $130 million, $93 million, and $76 million. These outcomes are all equally likely, and this risk is diversifiable. Gladstone will not make any payouts to investors during the year. Suppose the risk-free interest rate is 5.3% and assume perfect capital markets.

a.What is the initial value of Gladstone's equity without leverage?

Now suppose Gladstone has zero-coupon debt with a $100 million face value due next year. b. What is the initial value of Gladstone's debt?

c. What is the yield-to-maturity of the debt? What is its expected return?

d. What is the initial value of Gladstone's equity? What is Gladstone's total value with leverage?

a.What is the initial value of Gladstone's equity without leverage?

The initial value of Gladstone's equity without leverage is $_____ million. (Round to two decimal places.)

Now suppose Gladstone has zero-coupon debt with a $100 million face value due next year. b. What is the initial value of Gladstone's debt?

The initial value of Gladstone's debt is $___million. (Round to two decimal places.)

c. What is the yield-to-maturity of the debt? What is its expected return? The yield-to-maturity is 0%. (Round to the nearest integer.)

The expected return is 0%. (Round to one decimal place.)

d. What is the initial value of Gladstone's equity? What is Gladstone's total value with leverage?

The initial value of Gladstone's levered equity is $___ million. (Round to two decimal places.) Gladstone's total value with leverage is $___ million. (Round to two decimal places.)

Explanation / Answer

As risk is diversifiable and assuming perfect Market and assuming there is no tax rate

a)

The initial value of Gladstone's equity without leverage = PV of future cash flow

The initial value of Gladstone's equity without leverage = 151/1.053 + 130/1.053^2 + 93/1.053^3 + 76/1.053^4

The initial value of Gladstone's equity without leverage = $ 402.11 Million

b)

Initial value of Gladstone's debt = Face vaue of zero coupon retiring / (1+r)

Initial value of Gladstone's debt = 100/1.053

Initial value of Gladstone's debt = $ 94.97 million

c)

The yield-to-maturity   = 5.3%

Expected return = 5.3%

d)

Initial value of Gladstone's levered equity = Initial value of Gladstone's unlevered equity - Initial value of Gladstone's debt

Initial value of Gladstone's levered equity = 402.11-94.97

Initial value of Gladstone's levered equity = $ 307.14 Million

Gladstone's total value with leverage = Initial value of Gladstone's levered equity + Initial value of Gladstone's debt

Gladstone's total value with leverage = 307.14 + 94.97

Gladstone's total value with leverage = $ 402.11 Million

Related Questions

Navigate

• Browse (All)
• Browse G
• Subjects

Integrity-first tutoring: explanations and feedback only — we do not complete graded work. Learn more.