Question

Frank & Sons, a 100% equity financed firm, has a beta equal to 1.3. The firm’s stock is currently trading at $25 per share, and pays a $1.50 per share dividend. Treasury securities are trading at prices that result in a 7% yield, while current projections claim a 15% return from the stock market. What is Frank & Sons’ required rate of return on average risk projects?

Answer 1

Answer:

The required rate of return on the risky projects is 17.40%

Explanation:

The required rate of return on average risky projects of Frank and Sons can be computed using the cost of equity formula below:

Ke=Rf+beta*(Mr-Rf)

Rf is the risk rate of return on government security which is 7%

beta is the sensitivity of the project to market return is 1.3

Mr is the market expected return which is 15%

Ke=7%+1.3*(15%-7%)

Ke=7%+1.3*8%

Ke=7%+10.4%

Ke=17.40%

The required rate of return on the risky projects is 17.40%