6. Suppose firm A and firm B are planning on merging. There are no costs or syne

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6. Suppose firm A and firm B are planning on merging. There are no costs or synergy benefits from the merger. Before the merger firm A has an issue of bonds outstanding. These bonds entitle the holder to a payment of $80 million when the bonds mature next year. Firm B has no debt and the risk free interest rate is 0. (hint- that means you do not need to discount any cash flows) With probability .5 there will be a “boom” in the economy next year and with probability .5 there will be a recession. The value of firm A’s assets and firm B’s assets in a recession and a boom are as follows: “boom” (probability .5) “recession” (probability .5) Firm A asset value $160 million $50 million Firm B asset value $100 million $30 million (a) [8points] Using the analysis from class on the coinsurance effects of merging, what will be the change in the value of the bonds if the firm’s merge? (b) [7 points] Briefly indicate two ways that the firm could solve the problem of the coinsurance effects of merging?

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6. Suppose firm A and firm B are planning on merging. There are no costs or syne

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