Exam 9: Risk and the Cost of Capital

The company cost of capital is the correct discount rate only for investments that have the same risk as the company's overall business.

The historical returns for the past three years for Stock B and the stock market portfolio are: Stock B: 24%,0%,24%; Market portfolio: 10%,12%,20%.Calculate the observed covariance of returns between Stock B and the market portfolio.

An analyst computes a beta coefficient with a low standard error.This implies that:

A manager who adjusts discount rates by using a "fudge factor" is more likely to penalize short-term projects as opposed to long-term projects.

Suppose that an analyst incorrectly calculates WACCs using book values of debt and equity instead of market values.The resulting WACC estimates will generally be too high.

Briefly discuss the risk-adjusted discount rate approach to estimating the NPV of a project.

The company cost of capital,when the firm has both debt and equity financing,is called the:

An analyst should evaluate each project at its own opportunity cost of capital.The true cost of capital depends on the particular use of that capital.

An analyst computes the beta of the computer company WinDoze as 1.7 and the standard error of the estimate as 0.3.What is the 95% confidence interval for the calculated beta?

The market value of Cable Company's equity is $60 million and the market value of its debt is $40 million.If the required rate of return on the equity is 15% and that on its debt is 5%,calculate the company's cost of capital.(Assume no taxes.)

The historical returns for the past four years for Stock C and the stock market portfolio are: Stock C: 10%,30%,20%,20%; Market portfolio: 5%,15%,25%,15%.Calculate the beta of Stock C:

Which of the following types of projects has the lowest unique risk?

Briefly explain the difference between company and project cost of capital.

Briefly explain how a firm's cost of equity is estimated using the capital asset pricing model (CAPM).

A firm's cost of equity can be estimated using the: I.discounted cash-flow (DCF)approach; II.capital asset pricing model (CAPM); III.arbitrage pricing theory (APT)

The historical returns for the past three years for Stock B and the stock market portfolio are: Stock B: 24%,0%,24%; Market portfolio: 10%,12%,20%.Calculate the observed variance of the market portfolio returns.

Risky projects can be evaluated by discounting expected cash flows at a risk-adjusted discount rate.

Using a company's cost of capital to evaluate a project is: I.always correct; II.always incorrect; III.correct for projects that have average risk compared to the firm's other assets

The historical returns for the past three years for Stock B and the stock market portfolio are: Stock B: 24%,0%,24%; Market portfolio: 10%,12%,20%.Calculate the average return for Stock B and the market portfolio.

Generally,an industry beta,calculated from a portfolio of companies in the same industry,is more accurate that a beta estimate for a single company.