Question

Even though the CFO expects that it ultimately will not be useful, you have been asked to calculate the cost of equity using the Capital Asset Pricing Model (CAPM). Yahoo Finance reports Beta as 0.01. Management wants to use the 30 year bond rate as the risk free rate, arguing that Investors should make long term investments. That rate is 3% today. The expected return on the stock market as a whole has been estimated to be 7%, 10% and 12% by various studies. The CFO asks that you use an expected return of 9% for the average stock. The market risk Premium (RPM) will be 6%. 9% minus 3% = 6%. Calculate the McCormick & Co cost of equity using the CAPM. The formula is rs = rRF + (RPM ) x β. rs is the required return on equity or the Cost of Equity, rRF is the risk free rate, RP M is the required stock market return in excess of the risk free rate, and β , (Beta) is the stocks relative risk. β is also described as the estimate of the amount of risk that an individual stock contributes to a well balance portfolio.

Answer 1

Answer:

McCormick & Co cost of equity using the CAPM.

The formula is rs = rRF + (RPM ) x β

rs = 3% + 6% * 0.01

= 3.06%

McCormick & Co cost of equity = 3.06%