20. Frank is looking to find investors to open an Arbys in Argentina. Frank needs...
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20. Frank is looking to find investors to open an Arbys in Argentina. Frank needs $2.0M to open the business and intends to invest $1.5M of his own money and convince a group of friends to supply the other $500K Normally, Frank would give up 25% of the business to raise the $500K, with the remaining 75% owned by Frank for his $1.5M investment. Frank knows his friends really can't afford to lose $500K, so he offers to sweeten the deal in the following way: Instead of receiving 25% they will instead receive 20% of the business BUT in 3 years IF THEY WANT, the other investors can get their $500K back no questions asked. Thus, if in three years the idea has failed, Frank is willing to write his friends a check for $500K to give them back the money they originally invested Suppose the market value of the underlying business today is $2.0M, and the volatility of returns of this type of business can be measured at 40% per year, are the smaller investors better taking the 25% stake for $500K or the new deal of 20% for $500K with the "get your money back choice? Assume a risk-free rate of 1.5%. (4 points)
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