Calculation of Bankruptcy Probability Suppose a linear probability model you have developed finds there are two factors influencing the past bankruptcy behavior of firms: the debt ratio and the profit margin. Based on past bankruptcy experience, the linear probability model is estimated as: PD_i = .20 (debt ratio) + .50 (profit margin)
You know a particular firm has a debt ratio of 60 percent and a probability of default of 15 percent. Calculate the firm's profit margin.

Question

Quizplus · Accepted Answer

The correct answer is A.The firm's profit margin can be calculated as follows:PD_i = .20 (debt ratio) + .50 (profit margin)0.15 = 0.20 (0.60) + 0.50 (profit margin)0.15 = 0.12 + 0.50 (profit margin)0.03 = 0.50 (profit margin)profit margin = 0.03 / 0.50profit margin = 0.06 or 6.00%

Calculation of Bankruptcy Probability Suppose a Linear Probability Model You