Lending decision assignment

Essay by hanhnguyen1104University, Bachelor'sA, September 2014

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Estimate Probability of Default (PD) for each firm as indicated in the excel spreadsheet by using the Merton model. You are required to use data from 1/1/2004 to 31/12/2012.

Split the dataset into two groups: 1/1/2004 to 15/09/2008 and 16/09/2008 till 31/12/2012. Comment on your pre and post results by discussing each company's PD.



The analysis of Pre and Post GFC shows that AUT had a probability of default of 77.16% before the GFC which then grew significantly to 98.08% afterwards. The change in PD is a result of a decrease in the distance between value of assets and value of liability.

AUT company experienced a diminishing in share price as the market came close to GFC. Apparently, it is proven by the fact that the share price fell slightly throughout the year 2008 from $0.425 to $0.34. The data also suggests that the number of shareholdings had increased by 1200 shares in the year 2008.

However, this growth was not able to offset against the decrease in share price as the equity for this period dropped from $85,542 to $68,842. The decline in firm's market value was accompanied with a rise in liability which resulted in a high PD of 77.16% for AUT company.

After experiencing a trough in GFC, there was a huge increase in the share price and then it fluctuated during 2011-2012. Furthermore, the data states that an upward trend is also achieved in company's equity due to an escalation in shares purchases. Nevertheless, a surge in liability level had outweighed that increase in AUT's market value. Accordingly, the asset volatility of the company has increased substantially twice that of pre-period. Hence, the distance to default has decreased from -0.74 to -2.07 thus a default probability of 98.08% reached.