Market values of debt and equity

Assignment Help Financial Management

Reference no: EM132025543

The company has the following market values of debt and equity:

Market value of debt: $50

Market value of equity: $60

Therefore, the total market value of the assets is $110.

The firm has 10 shares outstanding; therefore, the current price per share is $6. The managers are considering an investment project with an initial cost of 50. They believe that the project should be worth $60. The company announces that it will issue new common stocks to obtain $50. However, due to information asymmetry between the management and the investors, as soon as the firm makes the announcement, investors believe that the firm’s common stock must be overvalued and consequently bid down the price to $5.5 per share. However, the new common stock issuance would increase the total value of equity that lowers the debt ratio. Investors feel that the debt is thus safer than before; therefore, the interest rate for the debt drops and the value increases to $53.

What is the total value of the firm right after the firm completes the stock issuance?

a. $153.09

b. $150.42

c. $155.53

d. $158.00

e. $161.02

Reference no: EM132025543

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