Problem:
A manager believes his firm will earn a 12 percent return next year. His firm has a beta of 1.2, the expected return on the market is 8 percent, and the risk-free rate is 3 percent.
Required:
Question: Compute the return the firm should earn given its level of risk and determine whether the manager is saying the firm is under-valued or over-valued.
9%, under-valued
9%, over-valued
13.8%, under-valued
13.8%, over-valued
Show all workings and formulas.