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Valuation of Equity using the Capital Asset Pricing Model

Cost of Capital Paper

**Description of the Assignment:**

Refer to what your instructor wants you to do and/or to submit, as detailed below in the Deliverables section. Include the real-world (authentic) situation, type of task to be accomplished, and the sorts of higher-order thinking (analysis, reasoning, critical thinking, etc.) that were requested and/or shared throughout your course thus far.

**Topics Covered Include:**

Weighted Average Cost of Capital

Valuation of Equity using the Capital Asset Pricing Model

Book Value of Debt

Capital Structure

Capital Budgeting Technique of Net Present Value

Time Value of Money (Discounting)

**BACKGROUND OF THE PROBLEM**:

The market situation: The risk-free rate is 5% and the market risk premium is 8%. The firm’s corporate tax rate is 35%. The firm has a beta of 1.10.

Common Stock is listed on the balance sheet of this company at $25 million. The Total Retained Earnings (meaning RE + Additions to Retained Earnings) is listed on the balance sheet as $50 million.

Long-term Debt consists of one outstanding bond issue with a face value of $75 million dollars, an 8 percent coupon rate and it sells for 93 percent of par.

A proposed project has expected cash inflows of year 1, $30,000; year 2, $40,000; year 3, $30,000 and year 4, $40,000. There is no residual value at the end of year 4.

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**Deliverables **

**ANSWER THE FOLLOWING in 5-7 pages (be sure to see paper requirements below for more expectations):**

What is the cost of equity using the CAPM?

What is the cost of debt using Book Valuation?

What is the capital structure of the organization using book values?

What is the weighted Average Cost of Capital (WACC)?

What is the Net Present Value of the proposed Project?

Should the company purchase this project using your computed data? Explain.

What literature article supports Net Present Value over IRR or Payback?

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