Equity holders in a leveraged firm have
A)A long put option to sell the firm's assets to the bond holders.
B)A long call option on the firm's assets,bought from the bond holders.
C)A short call option on the firm's assets,sold to the bond holders.
D)A short put option on the firm's assets,sold to the bond holders.

Question

Quizplus · Accepted Answer

Equity holders in a leveraged firm essentially have a long call option on the firm's assets, bought from the bond holders. This is because they have the right, but not the obligation, to "buy" the firm's assets by paying off the firm's debt, similar to how a call option gives the holder the right to buy an asset at a specified price. If the firm does well, equity holders can benefit from the upside, much like exercising a call option when the underlying asset's price is above the strike price.

Equity Holders in a Leveraged Firm Have