Question

Consider a firm whose assets are comprised of two projects: project a and project b. suppose value of project a is 100 and the value of project b is 200. further suppose that the required return of project a is 15% and the required return of project b is 9%. the firm has both issued both stock and debt. the market value of the debt is 75 and its required return is 7%.

what is the fair market value of the firm's equity?

Answer 1

To determine the fair market value of the firm's equity, calculate the combined value of Project A and Project B, and then subtract the market value of the debt. In this case, the firm's equity value is $225 million.

Step-by-step explanation:

The fair market value of the firm's equity can be calculated by first determining the overall value of the firm which is the sum of the value of both projects and the market value of the debt. We then subtract the debt to find the value of equity.

The combined value of Project A at $100 with a required return of 15% and Project B at $200 with a required return of 9% is $300. The market value of the debt is $75 with a required return of 7%.

Assuming we look at the firm's assets and the debt separately:

• The total value of the firm's assets (projects A and B) is $300.
• The total market value of the debt is $75.

To calculate the equity value, we subtract the value of the debt from the value of the assets.

Firm's Equity = Total assets - Total debt

= $300 - $75

= $225

Thus, the fair market value of the firm's equity is $225 million.