Firm A does well in a boom economy. Firm B does well in a bust economy. The probability of a boom is 50%. The end of period values of the two firms depend on the economy as shown below:
Both firms have debt outstanding with a face value of $1,000. In order to diversify, the two firms have proposed a merger. The NPV of the merger is zero. Determine the gain or loss under each state of economy for the stockholders of A and B separately and for the combined firm AB. Should either the stockholders or bondholders be willing to support the merger (prove and state why)?

Question

Firm A does well in a boom economy. Firm B does well in a bust economy. The probability of a boom is 50%. The end of period values of the two firms depend on the economy as shown below:
  Both firms have debt outstanding with a face value of $1,000. In order to diversify, the two firms have proposed a merger. The NPV of the merger is zero. Determine the gain or loss under each state of economy for the stockholders of A and B separately and for the combined firm AB. Should either the stockholders or bondholders be willing to support the merger (prove and state why)?

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The Answer of Firm A does well in a boom economy. Firm B does well in a bust economy. The probability of a boom is 50%. The end of period values of the two firms depend on the economy as shown below:
  Both firms have debt outstanding with a face value of $1,000. In order to diversify, the two firms have proposed a merger. The NPV of the merger is zero. Determine the gain or loss under each state of economy for the stockholders of A and B separately and for the combined firm AB. Should either the stockholders or bondholders be willing to support the merger (prove and state why)?

Firm a Does Well in a Boom Economy