Allison's Market is currently valued at $68,400.The firm has a pure discount bond in the amount of $50,000 that is due in 1 year.The risk-free rate is 3.2 percent.What is the minimum value the firm must maintain if the shareholders are to exercise their call option on the firm in 1 year?

Question

Quizplus · Accepted Answer

The shareholders will only exercise their call if the value of the firm equals or exceeds the debt.Thus,the firm value must be at least $50,000,which is the amount of debt due in 1 year.Because this is a pure discount bond,the $50,000 includes both principal and interest.

Allison's Market Is Currently Valued at $68,400