Question 1 a.Briefly describe the Capital Asset Pricing Model (CAPM) and explain the meaning of the beta (β) coefficient. b.SpaceFlight is a large company with two departments: private space travel and air transport. Each department currently finances its activities through 48% of debt finance, 37% of ordinary equity, and 15% of preferred equity. The cost of preferred equity is equal to 10%. The company’s borrowing rate is 9%, while the tax rate is 25%. SpaceFlight’s management would like to know the minimum weighted average cost of capital (WACC) for each department. Since it is not possible to compute the beta values for the two departments, the management has identified two companies operating within the same sectors and with a capital structure similar to that of SpaceFlight. These companies will serve as appropriate proxies for the required beta values. The first company is a key operator in the private space travel sector and has a beta of 1.3, while the second company is a growing player in the air transport sector that has a beta of 0.6. The risk-free rate is currently 8% and the expected market return is 14%. i.Compute the weighted average cost of capital (WACC) for each department of SpaceFlight. Figures should be rounded to two decimal places. ii.Compare the two figures found in part b(i). How would SpaceFlight use this information?
Question 1 a.Briefly describe the Capital Asset Pricing Model (CAPM) and explain the meaning of the beta (β) coefficient. b.SpaceFlight is a large company with two departments: private space travel and air transport. Each department currently finances its activities through 48% of debt finance, 37% of ordinary equity, and 15% of preferred equity. The cost of preferred equity is equal to 10%. The company’s borrowing rate is 9%, while the tax rate is 25%. SpaceFlight’s management would like to know the minimum weighted average cost of capital (WACC) for each department. Since it is not possible to compute the beta values for the two departments, the management has identified two companies operating within the same sectors and with a capital structure similar to that of SpaceFlight. These companies will serve as appropriate proxies for the required beta values. The first company is a key operator in the private space travel sector and has a beta of 1.3, while the second company is a growing player in the air transport sector that has a beta of 0.6. The risk-free rate is currently 8% and the expected market return is 14%. i.Compute the weighted average cost of capital (WACC) for each department of SpaceFlight. Figures should be rounded to two decimal places. ii.Compare the two figures found in part b(i). How would SpaceFlight use this information?
Essentials Of Investments
11th Edition
ISBN:9781260013924
Author:Bodie, Zvi, Kane, Alex, MARCUS, Alan J.
Publisher:Bodie, Zvi, Kane, Alex, MARCUS, Alan J.
Chapter1: Investments: Background And Issues
Section: Chapter Questions
Problem 1PS
Related questions
Question
100%
Question 1
a.Briefly describe the Capital Asset Pricing Model (CAPM) and explain the meaning of the beta (β) coefficient.
b.SpaceFlight is a large company with two departments: private space travel and air transport. Each department currently finances its activities through 48% of debt finance, 37% of ordinary equity, and 15% of preferred equity.
The cost of preferred equity is equal to 10%. The company’s borrowing rate is 9%, while the tax rate is 25%.
SpaceFlight’s management would like to know the minimum weighted average cost of capital (WACC) for each department. Since it is not possible to compute the beta values for the two departments, the management has identified two companies operating within the same sectors and with a capital structure similar to that of SpaceFlight. These companies will serve as appropriate proxies for the required beta values.
The first company is a key operator in the private space travel sector and has a beta of 1.3, while the second company is a growing player in the air transport sector that has a beta of 0.6. The risk-free rate is currently 8% and the expected market return is 14%.
i.Compute the weighted average cost of capital (WACC) for each department of SpaceFlight. Figures should be rounded to two decimal places.
ii.Compare the two figures found in part b(i). How would SpaceFlight use this information?
Expert Solution
This question has been solved!
Explore an expertly crafted, step-by-step solution for a thorough understanding of key concepts.
Step by step
Solved in 2 steps
Recommended textbooks for you
Essentials Of Investments
Finance
ISBN:
9781260013924
Author:
Bodie, Zvi, Kane, Alex, MARCUS, Alan J.
Publisher:
Mcgraw-hill Education,
Essentials Of Investments
Finance
ISBN:
9781260013924
Author:
Bodie, Zvi, Kane, Alex, MARCUS, Alan J.
Publisher:
Mcgraw-hill Education,
Foundations Of Finance
Finance
ISBN:
9780134897264
Author:
KEOWN, Arthur J., Martin, John D., PETTY, J. William
Publisher:
Pearson,
Fundamentals of Financial Management (MindTap Cou…
Finance
ISBN:
9781337395250
Author:
Eugene F. Brigham, Joel F. Houston
Publisher:
Cengage Learning
Corporate Finance (The Mcgraw-hill/Irwin Series i…
Finance
ISBN:
9780077861759
Author:
Stephen A. Ross Franco Modigliani Professor of Financial Economics Professor, Randolph W Westerfield Robert R. Dockson Deans Chair in Bus. Admin., Jeffrey Jaffe, Bradford D Jordan Professor
Publisher:
McGraw-Hill Education