A company has a beta of 0.8. The expected market risk premium is 10%, and the...

Question

Question

A company has a beta of 0.8. The expected market risk premium is 10%, and the risk-free rate is 3%. The flotation cost is 8%.

Answer 1

Answer #1

Company’s Cost of external equity

As per Capital Asset Pricing Model [CAPM], the cost of equity is calculated by using the following equation

Cost of equity = Risk-free Rate + [Beta x Market Risk Premium]

= 3.00% + [0.80 x 10.00%]

= 3.00% + 8.00%

= 11.00%

Company’s Cost of external equity

Company’s Cost of external equity = Cost of Equity using CAPM Approach x (1 – Flotation Cost percentage]

= 11.00% x (1 – 0.08)

= 11.00% x 0.92

= 10.12%

“Hence, the Company’s Cost of external equity will be 10.12%”

Answer 2

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