Calculation of Bankruptcy Probability Suppose a Linear Probability Model You

question 68

Multiple Choice

Calculation of Bankruptcy Probability Suppose a linear probability model you have developed finds there are two factors influencing the past bankruptcy behavior of firms: the debt ratio and the profit margin.Based on past bankruptcy experience,the linear probability model is estimated as:
PD_i = 0.15 (debt ratio) + 0.05 (profit margin)
A firm you are thinking of lending to has a debt ratio of 50 percent and a profit margin of 8 percent.Calculate the firm's expected probability of default,or bankruptcy.

• A)7.90 percent
• B)11.6 percent
• C)30.00 percent
• D)7.80 percent

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Definitions:

Fair Competition

refers to a marketplace where businesses operate under rules that prevent monopolies and ensure equal opportunities for all participants.

Factor Payment

Financial compensation given to the factors of production—namely labor, capital, and resources.

Rent

A payment made by a tenant to a landlord for the use of a property or space.

Capitalism

Capitalism is an economic system characterized by private ownership of the means of production, market-based allocation of resources, and the creation of goods and services for profit.