Question 1:
Anna is a Vice President at the J Corporation. The company is considering investing in a new factory and Anna must decide whether it is a feasible project. In order to assess the viability of the project, Anna must first calculate the rate of return that equity holders expect from the company stock. The annual returns for J Corp. and for a market index are given below. Currently, the risk-free rate of return is 1.8% and the market risk-premium is 6.9% .
a) What is the beta of J Corp.'s stock?
b) Using the CAPM model, what is the expected rate of return on J Corp. stock for the coming year?
| Year |
J Corp. Return (%) |
Market Return (%) |
| 1 |
-1.16 |
-0.40 |
| 2 |
20.11 |
13.78 |
| 3 |
18.64 |
12.80 |
| 4 |
20.14 |
13.80 |
| 5 |
-15.56 |
-10.00 |
| 6 |
23.94 |
16.33 |
| 7 |
51.46 |
34.68 |
| 8 |
19.02 |
13.05 |
| 9 |
4.54 |
3.40 |
| 10 |
21.61 |
14.78 |
| 11 |
-9.50 |
-5.96 |
| 12 |
-3.56 |
-2.00 |
Question 2. Refer to Questions 1. Now that Anna has determined an appropriate rate of return for J Corp.'s stock, she must calculate the firm's Weighted Average
Cost of Capital (WACC). There are currently 56.7 Million J Corp. common shares outstanding. Each share is currently priced at $7.09 . As well, the firm has 7,000 bonds outstanding and each bond has a face value of $10,000, a yield to maturity of 3.78% and a quoted price of $10,678.00 . J Corp.'s tax rate is 30%.
J Corp. has no preferred shares outstanding.
What is J Corp.'s WACC? 10.66 %
Question 3:
Refer to Questions 1 and 2. The land for the factory will cost $1,240,000 The factory will cost $7,800,000 to build and construction will take two years with construction costs payable in equal installments at the start of each year. The factory will operate for 20 years; however, at the end of the fifth, tenth, and fifteenth year of operation, refurbishment costs will be $800,000
At the end of its 20 year lifespan, the land can be resold for $1,260,000
There is a 70% probability that the factory's net operating cash flows will be $1,527,421 ; however, there is a 30% chance that net cash flows will only be $1,023,812 . You may assume that net operating cash flows flow at the end of each year.
a) What are the Expected net operating cash flows per year?