1. Given the following data for a stock: beta = 1; risk-free rate = 4%; market premium = 6%. Calculate the expected rate of return on this stock using the capital asset pricing model.
2. A portfolio is made up of 25% of stock 1, and 75% of stock 2. Stock 1 has a variance of 0.08, and stock 2 has a variance of 0.035. The covariance between the stocks is -0.001. Calculate the standard deviation of the portfolio.
3. Virtualfriend.com, a 100% equity-financed social media company plans to diversify. More specifically, it intends to purchase a chain of gyms in order to allow its members to meet in real life in a friendly setting. The beta of Virtualfriend.com is 2.00. The average beta of publicly quoted gyms is 1.15. The risk free interest rate is 4%, and the expected market return is 7%. What is the cost of capital of this project?
4. In question 11, assume that the gym purchase is associated with a cash outflow, at time 0, of £1,000,000, and an expected perpetual incremental cash inflow as of t=1 of £100,000. What is the NPV of this purchase?
5. Tweetco, a social media company, is unlevered with a market value of $1,000,000. Its book value of equity is $20,000. Tweetco is currently deciding whether including debt in its capital structure would increase its value. Its current cost of equity is 10%. Under consideration is issuing $200,000 in new bonds with a 5% annual interest rate. Tweetco would repurchase $200,000 of stock with the proceeds of the bond issue. Tweetco’s effective marginal tax bracket is zero. What will Tweetco’s new firm value be if it decides to issue the bonds?
6. In question 13, what is the new cost of equity of Tweetco under the proposed capital structure change?
7. In question 13, what is the new WACC of Tweetco under the proposed capital structure change?