Calculating the Probability of Bankruptcy a Linear Probability Model You

question 41

Multiple Choice

Calculating the Probability of Bankruptcy A linear probability model you have developed finds there are two factors influencing the past bankruptcy behavior of firms: the debt-to-equity ratio and the sales-to-total assets ratio. Based on past bankruptcy experience, the linear probability model is estimated as: PD_i = .60 (debt/equity) + .02 (sales/total assets)
A firm you are thinking of lending to has a sales-to-assets ratio of 1.75 and its expected probability of default, or bankruptcy, is estimated to be 8.1 percent. Calculate the firm's debt ratio.

• A) 7.667%
• B) 7.12%
• C) 92.88%
• D) 8.1%