Capital Asset Pricing Model of Starbucks

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Part I: a. My company is Starbucks (SBUX). According to Yahoo! Finance (2012), the beta for Starbucks is 1.28. The overall portfolio is probably going to have a beta of around 1.0, if the portfolio is fully diversified. The inclusion of Starbucks therefore will increase the risk of the portfolio, because the beta for Starbucks is higher than 1.0. The reason is that Starbucks stock has historically been more volatile than the broader market. b. The capital asset pricing model is as follows: INCLUDEPICTURE "http://i.investopedia.com/inv/dictionary/terms/CAPM.gif" * MERGEFORMATINET Source: Investopedia (2012) Therefore the cost of equity for Starbucks is as follows: Ra = 4.5 + 1.28(6.5) Ra = 12.82% c. The two other companies chosen are Tim Horton's and McDonalds, two companies that compete with Starbucks. The beta for Tim Horton's is 0.15. This means the cost of equity for Tim Horton's is as follows: Ra = 4.5 + 0.15(6.5) = 5.475% For McDonalds the beta is 0.43, therefore the cost of equity is: Ra = 4.5 + 0.43(6.5) = 7.295% The expected return for the portfolio would be the weighted average of these three, or 8.53%. This compares with the market risk of 11%. Thus, the portfolio is less risky than the broad market portfolio. The risk can be brought closer to the market risk portfolio by adding other stocks, to increase the level of diversification in the portfolio. Part II. For Starbucks, a current project might be to engage in a little
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