The value of the risky debt of a firm is equal to the value of:
A) a call option plus the value of a risk-free bond.
B) a risk-free bond plus a put option.
C) the equity of the firm minus a put.
D) the equity of the firm plus a call option.
E) a risk-free bond minus a put option.

Question

Quizplus · Accepted Answer

The value of the risky debt of a firm can be represented as the value of a risk-free bond minus the value of a put option. This is because the risky debt can be seen as a risk-free bond (assuming the firm will pay back the debt without default) minus the risk (represented by a put option) that the firm will default on its obligations.

The Value of the Risky Debt of a Firm Is