Question

You have been hired as a consultant by Feludi Inc.'s CFO, who wants you to help her estimate the cost of capital. You have been provided with the following data: the risk-free rate is = 4.10%; the market risk premium = 5.25%; and beta = 1.30. Based on the CAPM approach, what is the cost of common equity from retained earnings?

Answer 1

Required rate of return using CAPM approach is

Required rate of return = Risk free rate of return + Beta × (Market risk premium)

(Note: Market risk premium = market rate of return - risk free rate of return)

Substituting values

(4.10% + (1.30*(5.25%)))

(4.10% + 6.825%)

Cost of common equity from retained earnings is 10.925% or 10.93% when rounded to two decimal places