A company is deciding whether to issue stock to raise money for an investment pr

Question

A company is deciding whether to issue stock to raise money for an investment project that has the same risk as the market and an expected return of 15%. If the risk-free rate is 5%, and the expected return on the market is 12%, the company should go ahead:

1. This is false. The company should not take this project.

2. Regardless of the company’s beta.

3. Unless the company’s beta is greater than 1.25.

4. Unless the company’s beta is less than 1.25.

(No more option, you only can calculate and define one of action which should be took by the company.)

Explanation / Answer

As per market risk, a project shall yield at least 12% to be at par. This project is yielding 15% which is more than 12%. Therefore the company should go ahead with the project as this project provides excessive risk adjusted returns.
Hence the correct option is:
2. Regardless of the company’s beta.

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