A Linear Probability Model You Have Developed Finds There Are

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: PDi = .52 (debt/equity) + .01 (sales/total assets)
A firm you are thinking of lending to has a sales-to-assets ratio of 2.0 and its expected probability of default, or bankruptcy, is estimated to be 12 percent. Calculate the firm's debt ratio.

A) 14.03%
B) 14.92%
C) 15.49%
D) 15.97%

Correct Answer:

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