lems Saved Help Save Exit Submit Check my work Steinberg Co

lems Saved Help Save & Exit Submit Check my work Steinberg Corporation and Dietrich Corporation are identical firms except that Dietrich is more levered. Both companies wil remain in business for one more year. The companies\' economists agree that the probability of the continuation of the current expansion is 70 percent for the next year, and the probability of a recession is 30 percent. f the expansion continues, will generate earnings before interest and taxes (EBIT) of $3.4 million. If a recession occurs, each firm will generate before interest and taxes (EBIT) of $1.8 million. Steinberg\'s debt obligation requires the year. Dietrich\'s debt obligation requires the firm to pay $1.9 million at the end of the year. Neither firm pays taxes. Assume a discount rate of 12 percent. firm to pay $970,000 at the end of the a-1. What are the current market values of Steinberg\'s equity and debt? (Enter your answers in dollars, not millions of dollars Do not round intermediate calculations and round your answers to the nearest whole dollar, e.g, 1,234,567) Steinberg Equity value Debt value a-2. What are the current market values of Dietrich\'s equity and debt? (Enter your answers in dollars, not millions of dollars. Do not round intermediate calculations and round your answers to the nearest whole dollar, e.g. 1,234,567) Dietrich Equity value Debt value and, b. Steinberg\'s CEO recently stated that Steinberg\'s value should be higher than Dietrich\'s since the firm has less debt, therefore, less bankruptcy risk. Do you agree or disagree with this statement? Prex 4 of sNext> 9

Solution

EBIT in Expansion = $ 3.4 Million
Probability of Expansion = 70%

EBIT in Recession = $ 1.8 Million
Probability of Recession = 30%

Expected EBIT = (3.4*70%) + (1.8 * 30%)
Expected EBIT = 2.38 + 0.54 = 2.92 Million

Discount Rate = 12%

Value of Corporation = EBIT / Discount Rate
Value of Corporation = 2.92 /12%
Value of Corporation = $ 24.33 Million

Stienberg
Debt Value = 970,000
Equity Value = 24,333,333 - 970,000 = 23,363,333

Dietrich\'s
Debt Value = 1,900,000
Equity Value = 24,333,333 - 1,900,000 = 22,433,333

b. As Higher risk, more will be the discount rate, thereby reducing total value. thus Agree with statement