Almost all companies and projects are financed with both debt and levered equity. We already know what debt is. Levered equity is simply what accrues to the business owner after the debt is paid off. You already have an intuitive sense about this. If you own a house with a mortgage, you really own the house only after you have made all debt payments. If you have student loans, you yourself are the levered owner of your future income stream. That is, you get to consume “your” residual income only after your liabilities (including your non-financial debt) are paid back. But what will the levered owner and the lender get if the company’s projects fail, if the house collapses, or if your career takes a turn towards Rikers Island? What is the appropriate compensation for the lender and the levered owner? The split of net present value streams into loans (debt) and levered equity lies at the heart of finance. We will illustrate this split through the hypothetical purchase of a building for which the future value is uncertain. This building is peculiar, though: it has a 20% chance that it will be destroyed, say by a tornado, by next year. In this case, its value will only be the land—say, $20,000. Otherwise, with 80% probability, the building will be worth $100,000. Naturally, the $100,000 market value next year would itself be the result of many factors—it could include any products that have been produced inside the building, real-estate value appreciation, as well as a capitalized value that takes into account that a tornado might strike in subsequent years.