A firm wants to undertake an investment project which costs N$5,000, which it wants to finance through
Question:
A firm wants to undertake an investment project which costs N$5,000, which it wants to finance through a bank loan. The project has a 90 percent probability of success. If the project succeeds the firm will make a cash flow of N$15,000 after a year. If it falls the firm will get a cash flow of zero.
The bank has a required return of 15%
(a) What is the bank's loan rate if the firm is not required to make repayments if the project fails? Will the bank be willing to lend at that rate? Explai
(b) Will the firm be willing to participate if it is not required to make repayments if the project fails?
(c) Now suppose the firm will be required to pay $1,000 if the project fails. What happens to the bank's loan rate? Show your calculations and explain why.
(d) How much will be the bank's uncertain income if the firm is required to pay only $1,000 if the project fails? What will be the expected values of these incomes?
Expert Answer:
a What is the bank s loan rate if the firm is not required to make repay ments if the project fails ANS WER The bank s loan rate would be 90 WORK ING ... View the full answer
