Sunburn Sunscreen has a zero coupon bond issue outstanding with a $25,000 face v
ID: 2759338 • Letter: S
Question
Sunburn Sunscreen has a zero coupon bond issue outstanding with a $25,000 face value that matures in one year. The current market value of the firm's assets is $27,200. The standard deviation of the return on the firm's assts is 35% per year, and the annual risk-free rate is 5% per year, compounded continuously.
Frostbite Thermalwear has a zero coupon bond issue outstanding with a face value of $31,000 that matures in one year. The current market value of the firm's assets is $34,000. The standard deviation of the return on the firm's assets is 39% per year. Suppose Sunburn Suncreen and Frostbite Thermalwear have decided to merge. Because the two companies have seasonal sales, the combined firm's return on assets will have a standard deviation of 21% per year.
*Round all answers to 2 decimal places AND show work please.
A-1: What is the combined value of equity in the two existing companies?
EQUITY $________
A-2: What is the combined value of debt in the two existing companies?
DEBT $__________
Explanation / Answer
Total face value of bond = 31000+25000
= 56,000
Pv of bond = 56000/ exp( 1x 0.05)
= 53,268.85
Combined value of debt = 53,268.85
Combined value of assets =27200+34000
= 61,200
Combined value of equity = value of assets – value of debt
= 61200 – 53,268.85
= 7931.15
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