1. The total market value of the equity of Living Inc. is $6 million, and the total value of its debt is $4 million. The treasurer estimates that the beta of the stock currently is 1.2 and the expected risk premium on the market is 10%. The treasury bill rate is 4%, and investors believe that the Living's debt is essentially free of default risk. a. What is the required rate of return on Living stock? b. Estimate the WACC assuming a tax rate of 21%. c. Estimate the discount rate for an expansion of the company's present business. *ANSWER MUST BE IN 2 DECIMAL.
Cost of Capital
Shareholders and investors who invest into the capital of the firm desire to have a suitable return on their investment funding. The cost of capital reflects what shareholders expect. It is a discount rate for converting expected cash flow into present cash flow.
Capital Structure
Capital structure is the combination of debt and equity employed by an organization in order to take care of its operations. It is an important concept in corporate finance and is expressed in the form of a debt-equity ratio.
Weighted Average Cost of Capital
The Weighted Average Cost of Capital is a tool used for calculating the cost of capital for a firm wherein proportional weightage is assigned to each category of capital. It can also be defined as the average amount that a firm needs to pay its stakeholders and for its security to finance the assets. The most commonly used sources of capital include common stocks, bonds, long-term debts, etc. The increase in weighted average cost of capital is an indicator of a decrease in the valuation of a firm and an increase in its risk.
1. The total market value of the equity of Living Inc. is $6 million, and the total value of its debt is $4 million. The treasurer estimates that the beta of the stock currently is 1.2 and the expected risk premium on the market is 10%. The treasury bill rate is 4%, and investors believe that the Living's debt is essentially free of default risk.
a. What is the required
b. Estimate the WACC assuming a tax rate of 21%.
c. Estimate the discount rate for an expansion of the company's present business.
*ANSWER MUST BE IN 2 DECIMAL.
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