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 = 0.20 (debt ratio) + 0.50 (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.

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

Calculation of Bankruptcy Probability Suppose a Linear Probability Model You