Question

You work for Microsoft Corporation (ticker: MSFT), and you are considering whether to develop a new software product. The risk of the investment is the same as the risk of the company. a. Using the data in Table 1 shown here, and Table 2 shown here, calculate the cost of capital using the FFC factor specification if the current risk-free rate is 2.8% per year. b. Microsoft's CAPM beta over the same period was 0.91. What cost of capital would you estimate using CAPM? A Data Table - XI Data Table (Click on the icon located on the top-right corner of the data table below in order to copy its contents into a spreadsheet.) (Click on the icon located on the top-right corner of the data table below in order to copy its contents into a spreadsheet.) Factor MKT SMB HML PR1YR MKT-If Table 1: Estimated Factor Betas, 2005-2015 MSFT ХОМ 1.01 0.78 -0.47 -0.62 -0.13 0.21 -0.05 0.32 GE 1.29 -0.39 Table 2: FFC Portfolio Average Monthly Returns, 1927-2015 Factor Portfolio Average Monthly Return (%) 95% Confidence Band (%) 0.62 +0.33 SMB 0.22 +0.19 HML 0.38 +0.21 PR1YR 0.72 +0.29 0.82 -0.22 Print Done Print Done

Answer 1

@ Cost of capital using FFC off + Burke (Rmxr Rp) + B SMB X SMB + B M X HML + B PRAYPX PRAYR - 2.89 + 1,01(0-62) + f-04) (0 22) + (013)(038) +60-05)( 072) 22:8). +0.53046% HML z 3.33046%. using CAPM CoC - 2.8 +0.91 (0-6) + z 2:8 +0.5642 = 3.3642%