You are evaluating a company and have found a new way to calculate the present value of bankruptcy costs,agency costs of outside equity as well as debt.You find that the agency costs of outside equity is $100 while the agency cost of outside debt is $1,000,000.The costs of bankruptcy are also $1,000,000.What type of firm does most likely describe?

Question

Quizplus · Accepted Answer

The high agency cost of outside debt and the high cost of bankruptcy suggest that the firm has too much debt. This puts them at risk for financial distress and bankruptcy, which comes with high costs. The agency cost of outside equity being relatively low suggests that the firm is not relying too heavily on equity financing. Therefore, the most likely scenario is a firm with too much leverage.

You Are Evaluating a Company and Have Found a New