Question

please do number 6 and 7 i have no idea how to do them!

0.2 13% 0.1 15% a. What is the fund's beta? b. What is the market risk premium? c. What is the fund's required rate of return? The fund is considering an additional $50 million investment in a new stock with a beta of 2.0. What is the expected rate of return on this new stock? port. Bela 6. Pacific Desert Corp is considering a large investment in bio-fuel algae. For this new project, the company has determined that its optimal capital budget can be externally financed with $70 million of 10 percent first-mortgage bonds sold at par and $14 million of preferred stock costing the company 11 percent. The remainder of the capital budget will be financed with common stock, which is presently selling at $25 a share, and next year's common dividend, Dı, is expected to be $2 a share. The company will issue 2.24 million common shares. The company's past annual growth rate in dividends and earnings has been 6 percent. However, a 5 percent annual growth in earnings and dividends is expected for the foreseeable future. The company's marginal tax rate is 40 percent. Calculate the company's weighted average cost of capital. tax 7. The common stock of Harry's just paid a dividend of $0.90 per share. The dividend is expected to grow at an 11% annual rate in perpetuity. The coefficient of correlation of Harry's with the market portfolio is 1.0. The standard deviation of Harry's returns is 9%. The expected return for the market portfolio is 12% and its standard deviation is 9%. The risk-free rate of return is 5%. What is the price of a single share of Harry's common stock?

Answer 1

6)

	Value	Weight	Cost
Debt	70	50%	10%
Preferred	14	10%	11%
Equity	56	40%	13%
Total	140	WACC	9.30%

Cost of equity, re = D1 / P + g = 2 / 25 + 5% = 13%

WACC = wd x rd x (1 - tax) + wps x rps + we x re = 50% x 10% x (1 - 40%) + 10% x 11% + 40% x 13% = 9.30%

7) Using CAPM, Required rate, r = Rf + beta x (Rm - Rf) = 5% + 1 x (12% - 5%) = 12%

Using dividend growth model, Price of share, P0 = D0 x (1 + g) / (r - g) = 0.9 x (1 + 11%) / (12% - 11%) = $99.90