Question

The common stock of shaky building supply has a beta that is 22 percent greater than the overall market beta. currently, the market risk premium is 9.56 percent while the u.s. treasury bill is yielding 3.3 percent. what is the cost of equity for this firm?

a. 14.36 percent
b 14.25 percent
c. 14.96 percent
d. 15.16 percent
e. 15.31 percent

Answer 1

The cost of equity for Shaky Building Supply is approximately 15.16 percent, calculated using the Capital Asset Pricing Model with the given risk-free rate, market risk premium, and beta. The correct option is d. 15.16 percent.

The cost of equity (Re) can be calculated using the Capital Asset Pricing Model (CAPM):

Re = Rf + β(Rm - Rf),

where:

Rf is the risk-free rate,

β is the beta of the stock,

Rm is the expected market return.

Given:

Risk-free rate (Rf) = 3.3%,

Market risk premium (Rm - Rf) = 9.56%,

Beta (β) = Market beta + (Market beta * Beta differential percentage) = Market beta + (0.22 * Market beta).

Calculate β:

β = 1 + (0.22 * 1) = 1.22.

Now, substitute these values into the CAPM formula:

Re = 3.3 + 1.22 * 9.56 = 15.16%

Therefore, the cost of equity for Shaky Building Supply is approximately 15.16 percent, matching option d.

The correct option is d. 15.16 percent.