A company has assets of $400,000 and total debts of $160,000. Using an option pricing model, the implied volatility of the firm’s assets is estimated as 20 per cent. Using Merton’s model (KMV type),...

A company has assets of $400,000 and total debts of $160,000. Using an option pricing model, the implied volatility of the firm’s assets is estimated as 20 per cent. Using Merton’s model (KMV type), estimate the firm’s expected default risk. What is probability of default (PD)? Why is the estimation of PD important?