Consider a firm whose only asset is a plot of vacant land,and whose only liability is debt of $15.2 million due in one year.If left vacant, the land will be worth $10.2 million in oneyear. Alternatively, the firm can develop the land at anupfront cost of $20.3 million. The developed land will be worth$34.5 million in one year. Suppose the risk-free interestrate is 10.5%, assume all cash flows are risk-free, andassume there are no taxes.
a. If the firm chooses not to develop the land, what isthe value of the firm's equity today? What is the valueof the debt today?
b. What is the NPV of developing the land?
c. Suppose the firm raises $20.3 million from the equity holdersto develop the land. If the firm develops the land, what isthe value of the firm's equity today? What is the valueof the firm's debt today?
d. Given your answer to part (c), would equity holders bewilling to provide the $20.3 million needed to developthe land?
Consider a firm whose only asset is a plot of vacant land, and whose only liability is debt of $15.2 million due in one
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