Question: A firm is considering two mutually exclusive projects (named A and B). The cash flows in each of two states of the worlds are provided

A firm is considering two mutually exclusive projects (named A and B). The cash flows in each of two states of the worlds are provided for each of the projects. The projects cost the same.

	Project A		Project B
	Boom	Recession	Boom	Recession
Probability	0.6	0.4	0.6	0.4
Cash flow	$200	$100	$220	$60
Payment to debt holders	$100	$100	$100	$50
Distribution to stockholders	$100	$0	$120	$10

In the scenario described above:

A) Shareholders will ask managers to choose value maximizing project A and there will be no conflict between shareholders and bondholders.

B) Shareholders will ask managers to choose project B and there will be a conflict between shareholders and bondholders.

C) Bondholders will prefer project B.

D) Bondholders will be indifferent between project A and B because they only get a fixed return.

E) None of the above is correct.

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