The total market value of Okefenokee Real Estate Company\'s equity is S8 milion,

Question

The total market value of Okefenokee Real Estate Company's equity is S8 milion, and the total value of its debt is $2 million. The treasurer that the beta of the stock currently is 0 6 and that the expected risk premium on the market is 10%The Treasury bill rate is 4% What is the required rate of return on Okefenokee stock? a. Required rate of return at is the beta of the company's exising portfolio of assets? The debt is perceived to be virtually risk-free.(Round your answer to 2 ompany's existing portfolio of assets? The debt is perceived to be virtually risk-free. (Round your answer to 2 decimal places.) Weighted-average beta Estimate the weighted average cost ofcapital assuming a tax rate of40% (Do not round intermediate calculations. Round your answer to 2 decimal places.) WACC c. Estimate the discount rate for an expansion of the c answer to 2 decimal places.) d. Discount rate e. Suppose the company wants to diversify into the manufacture of rose-colored glasses. The beta of optical manufacturers with no debt retum on Okefenokee's new venture? (You should assume that the risky project will not enable the firm to issue any additional debt.) Required rate of return

Explanation / Answer

Question - a

Required rate of return = Ke = Rf + Beta ( Rm - Rf) = 4 + 0.60(10) = 10% ............final answer

Question - b

Beta of assets portfolio = stock beta ( % of equity) + debt beta ( % of debt)

= 0.60 ( 8/10) + 0 ( 2/10) = 0.48.................final answer

Question - c

WACC = Ke( % of Equity ) + Kd( % of Debt) = 10(8/10) + 2.4(2/10) = 8.48 .............final answer

note................ Kd = cost of debt = 4% ( 1 - 0.40) = 2.4 is the after tax cost of debt

Question - d

Discount rate = WACC = 8.48%...............final answer

Question - e

Required rate of return = Ke = 4% + 0.80 (10) = 12% ...............final answer

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