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Adjusted discount rate of scale changing

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Reference no: EM132271997

Consider a corporation that currently has debt of $200 million and equity of $300 million. The beta of its debt is 0.4 and beta of its equity is 1.6. Suppose currently risk free rate of interest is 3% per annum, and the expected rate of return on the market portfolio is 9% per annum. Assuming that the capital asset pricing is valid, find the risk adjusted discount rate of scale changing capital projects of the corporation.

Secondly, assume now that the corporation raises additional equity funds of $100 million and uses these funds to pay down its outstanding debt. As a consequence, the beta of its debt declines to 0.2. Find the beta of its equity, the required expected rate of return on its equity and the risk-adjusted discount rate.

Reference no: EM132271997

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