Suppose that a firm A is considering entering a business similar to firm B, relatively small firm in a single line of business. Firm A is currently financed with 65% debt & 35% equity. Firm B, the pure-play firm, has a Beta of 0.85 and is financed with 45% debt & 55% equity. Firm B's marginal tax rate is 34% and firm A's marginal tax rate is 39%. If the riskless rate is 3% and the market return is 8%, estimate firm A's cost of equity for the new business using the CAPM.
Suppose that a firm A is considering entering a business similar to firm B, relatively small firm in a single line of business. Firm A is currently financed with 65% debt & 35% equity. Firm B, the pure-play firm, has a Beta of 0.85 and is financed with 45% debt & 55% equity. Firm B's marginal tax rate is 34% and firm A's marginal tax rate is 39%. If the riskless rate is 3% and the market return is 8%, estimate firm A's
*Check Answer: Firm A's Cost of Equity = 8.89% - professor gave us the answer*
I have calculated Kb= 0.03 + (0.08-0.03)(0.85) = 0.0725
I am not sure how to calculate for the Cost of Equity with this information. Help! Thank you!!
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