Jim Campbell is founder and CEO of Open-Start, an innovative software company. The company is all equity

Question:

Jim Campbell is founder and CEO of Open-Start, an innovative software company. The company is all equity financed, with 100 million shares outstanding. The shares are trading at a price of $1. Campbell currently owns 20 million shares. There are two possible states in on year. Either the new version of their software is a hit, and the company will be worth $160 million, or it will be a disappointment, in which case the value of the company will drop to $75 million. The current risk free rate is 2%. Campbell is considering taking the company private by repurchasing the rest of the outstanding equity by issuing debt due in one year. Assume the debt is zero-coupon and will pay it's in one year.
a. What is the market value of the new debt that must be issued?
b. Suppose Open-Start issues risk-free debt with a of $75 million. How much of its outstanding equity could it repurchase with the proceeds from the debt? What fraction of the remaining equity would Jim still not own?
c. Combine the fraction of the equity Jim does not own with the risk-free debt. What are the payoffs of this combined What is the value of this What of risky debt would have the same payoffs as the in (c)?
e. What is the yield on the risky debt in (d) that will be required to take the company private?
f. If the two outcomes are equally likely, what is Open-Start's current WACC (before the transaction)?
g. What is Open-Start's debt and equity after the transaction? Show that the WACC is unchanged by the new leverage.
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