A project under consideration has an internal rate of return of 17% and a beta o
ID: 2755200 • Letter: A
Question
A project under consideration has an internal rate of return of 17% and a beta of 0.4. The risk-free rate is 7%, and the expected rate of return on the market portfolio is 17%.
a-1. Calculate the required return.
a-2. Should the project be accepted?
b-1. Calculate the required return if its beta is 1.4.
b-2. Should the project be accepted?
a-1. Calculate the required return.
a-2. Should the project be accepted?
b-1. Calculate the required return if its beta is 1.4.
b-2. Should the project be accepted?
Explanation / Answer
a-1. Calculate the required return.
As per CAPM
Required return = risk-free rate + ( expected rate of return on the market -risk-free rate )*beta
Required return = 7 + (17-7)*0.4
Required return = 11.00%
a-2. Should the project be accepted?
Yes the project should be accepted, since IRR is greater than required return
b-1. Calculate the required return if its beta is 1.4.
As per CAPM
Required return = risk-free rate + ( expected rate of return on the market -risk-free rate )*beta
Required return = 7 + (17-7)*1.4
Required return = 21.00%
b-2. Should the project be accepted?
No the project should not be accepted, since IRR is lower than required return
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