HomeworkLib
Question

Section 3: Capital Asset Pricing Model and Cost of Capital (32 marks) a. Suppose the risk free rate, FRF is 5%, the return on
purchase of Alpha Corp. stock be a good buy? f. Suppose you are the money manager of a $250 million fund consists of four sto
0% debt, 20% preferred stock and K. A firm has a capital structure containing 40% debt, 20% P 40% common stock equity. The fi
business   finance   
0 0
Add a comment Improve this question Transcribed image text
Next > < Previous
Sort answers by oldest

Homework Answers

Answer #1

Solution :- (1)

(a) As per CAPM

Expected Return = Rf + Beta * ( Rm - Rf )

Expected Return = 5% + 1.4 * ( 14% - 5% )   

Expected Return of Stock A = 17.6%

(b) As per CAPM

Expected Return = Rf + Beta * ( Rm - Rf )

17% = 5% + Beta * ( 15% - 5% )   

Beta of Stock M = 12 / 10 = 1.20

(c) As per CAPM

Expected Return = Rf + Beta * ( Rm - Rf )

Expected Return = 6% + 1.6 * ( 7% )   

Expected Return of Stock Delta = 17.2%

(D) Beta is a systemmatic Risk , As risk free asset has no risk so its Beta is Zero

(i)

If 70% in Delta and 30% in Risk free than Return of Portfolio =

= ( Weight of Delta * Return of Delta ) + ( Weight of Risk Free * Return of Risk free )

= ( 0.70 * 17.2% ) + ( 0.30 * 6% )

= 12.04% + 1.80%

= 13.84%

(ii)

If 70% in Delta and 30% in Risk free than Beta of Portfolio =

= ( Weight of Delta * Beta of Delta ) + ( Weight of Risk Free * Beta of Risk free )

= ( 0.70 * 1.6 ) + ( 0.30 * 0)

= 1.12

If there is any doubt please ask in comments

As per HomeworkLib policy we need to answer only four subparts in one question at once so please ask others as seperate one

Thank you please rate .....

0 0
Add a comment
Know the answer?
Add Answer to:
Section 3: Capital Asset Pricing Model and Cost of Capital (32 marks) a. Suppose the risk...
Your Answer:

Post as a guest

Your Name:

What's your source?

Earn Coins

Coins can be redeemed for fabulous gifts.

Log In

Sign Up

Not the answer you're looking for? Ask your own homework help question. Our experts will answer your question WITHIN MINUTES for Free.
Similar Homework Help Questions

  • Problem 1: Making use of the Capital Asset Pricing Model, compute the cost of Common Equity...

    Problem 1: Making use of the Capital Asset Pricing Model, compute the cost of Common Equity assuming a risk-free rate of 3.0%, a market rate of 4% and an assumed Beta of 1.1. Assume the following Capital Structure Weighted Average Cost of Capital Data Capital Structure Debt 0.3 Preferred Stock 0.2 Common Equity 0.5 Information Bond Yield to Maturity (YTM) 0.06 Corp Tax Rate 0.3 Dividends (preferred stock) 1.55 Price (preferred stock) 25 Floatation Cost 1 Dividends (common stock) 1...

  • please show in Excel Boom Mechanics is trying to determine its optimal capital structure, which now...

    please show in Excel Boom Mechanics is trying to determine its optimal capital structure, which now consists of only debt and common equity. The firm does not Currently use preferred stock in its capital structure, and it does not plan to do so in the future. Its treasury staff has consulted with investment Dankers. On the basis of those discussions, the staff has created the following table showing the firm's debt cost at different debt levels: Debt-to-Equity-to Debt-to- Capital Capital...

  • Beta firm has a capital structure containing 60% debt and 40% ordinary stock equity. Its outstanding...

    Beta firm has a capital structure containing 60% debt and 40% ordinary stock equity. Its outstanding bonds offer investors as 6.5% yield to maturity. The risk-free rate currently equals 5%, and the expected risk premium on the market portfolio equals 6%. The firm's common stock beta is 1.20. a) What is the firm's required return on equity? b)Ignoring taxes, use your finding in part (a) to calculate the firm's WACC. c)Assuming a 40% tax rate, recaluculate the firm's WACC found...

  • you were hired as a consultant to Giambono Company, whose target capital structure is 40% debt,...

    you were hired as a consultant to Giambono Company, whose target capital structure is 40% debt, 15% preferred, and 45% common equity. The after-tax cost of debt is 6%, the cost of preferred is 7.50%, and the common stock has the following CAPM data: risk free rate of 5%, market risk premium of 6%, and beta 1.05. The firm will not be issuing any new stock. What is its WACC

  • 3- Your company is estimating its WACC. Its target capital structure is 30 percent debt, 10 perce...

    3- Your company is estimating its WACC. Its target capital structure is 30 percent debt, 10 percent preferred stock, and 60 percent common equity. Its bonds have an 8 percent coupon, paid quarterly, a current maturity of 15 years, and sell for $895. The firm could sell, at par, $100 preferred stock which pays $10 annual dividend, but flotation costs of 5 incurred if the company will ssue new preferred stocks. This company's beta is 1.3, the risk-free rate is...

  • QUESTION 4: A firm has a capital structure containing 40 percent debt, 10 percent preferred stock,...

    QUESTION 4: A firm has a capital structure containing 40 percent debt, 10 percent preferred stock, and 50 percent common stock equity. The firm's debt has a yield to maturity of 9.50 percent. Its preferred stock's annual dividend is $7.50 and the preferred stock's current market price is $50.00 per share. The firm's common stock has a beta of 0.90 and the risk-free rate and the market return are currently 4.0 percent and 13.5 percent, respectively. The firm is subject...

  • You are tasked with estimating the cost of capital for a firm. The risk-free rate is...

    You are tasked with estimating the cost of capital for a firm. The risk-free rate is 4.7%, the expected rate of return on the market is 10.7%. Now, another similar company (similar unlevered cost of capital) has a debt-to-equity ratio of 1 to 2. It has a debt beta near zero and an equity market-beta of 1.5. Your own firm has more debt, for a debt-to-equity ratio of 1 to 1, with a debt beta of 0.3. What is a...

  • Bagels Inc. has a target capital structure of 40% debt, 5% preferred stock and 55% common...

    Bagels Inc. has a target capital structure of 40% debt, 5% preferred stock and 55% common equity. DBI’s before-tax cost of debt is 8% and marginal tax rate is 25%. Preferred stockholders require a 3.25% return. Currently the firm’s beta is 0.25. Using a market return of 11.0% and risk-free rate of 2.0%, what is Daigle’s Bagels’ a) cost of equity? (3 points) b) WACC? (7 points)

  • Bagels Inc. has a target capital structure of 40% debt, 5% preferred stock and 55% common...

    Bagels Inc. has a target capital structure of 40% debt, 5% preferred stock and 55% common equity. DBI’s before-tax cost of debt is 8% and marginal tax rate is 25%. Preferred stockholders require a 3.25% return. Currently the firm’s beta is 0.25. Using a market return of 11.0% and risk-free rate of 2.0%, what is Daigle’s Bagels’ a) cost of equity? (3 points) b) WACC? (7 points)

  • Watson Company wants to raise capital for a planned expansion into a new market. The firm has 1 million shares of common equity with a par value (book value) of $1 and retained earnings of $30 million, its shares have a market value of $50 per share. It

    You have collected the following information on Watson Company:·       Watson has just paid a dividend of $3 and has expected dividend growth of 4.8% per year·       Watson has a $20 million debt issue outstanding ($1000 par) with a 6% coupon rate. The debt has semi annual coupons and matures in five years. The bonds are selling at 95% of par·       The company has a 40% tax rate·       Watson also has 500,000 preferred shares outstanding. They are trading at $65 per...

ADVERTISEMENT
Free Homework Help App
Download From Google Play
Scan Your Homework
to Get Instant Free Answers
Need Online Homework Help?
Ask a Question
Get Answers For Free
Most questions answered within 3 hours.
ADVERTISEMENT
ADVERTISEMENT