Homework Answers
First question:
Expected rate of return = risk free rate + beta X (market return- risk free rate)
= 4% + 1.4 X (12% - 4%) = 15.2%
NPV of project is:
| Year | Cash flow | Discount rate @ 15.2% | Discounted cash flow |
| 0 | $ (35.00) | 1 | $ (35.0000) |
| 1 | $ 8.00 | 0.868055556 | $ 6.9444 |
| 2 | $ 8.00 | 0.753520448 | $ 6.0282 |
| 3 | $ 8.00 | 0.654097611 | $ 5.2328 |
| 4 | $ 8.00 | 0.567793065 | $ 4.5423 |
| 5 | $ 8.00 | 0.492875924 | $ 3.9430 |
| 6 | $ 12.00 | 0.427843684 | $ 5.1341 |
| NPV | $ (3.1751) |
Correct answer choice is a. - 3.1751
Second question:
Expected rate of return = risk free rate + beta X (market return- risk free rate)
= 4% + 1.4 X (10% - 4%) = 12.4%
Price of stock = (Dividend current X (1 + growth rate))/ (expected return – growth rate)
= ($2 X (1+4%))/ (12.4% - 4%) = $2.08 / 8.4% = $24.76
Correct option is $24.76
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