Currently, Forever Flowers Inc. has a capital structure consisting of 30% debt and 70% equity. Forever's debt currently has an 8% yield to maturity. The risk-free rate (rRF) is 4%, and the market risk premium (rM - rRF) is 4%. Using the CAPM, Forever estimates that its cost of equity is currently 12%. The company has a 40% tax rate.
a. What is Forever's current WACC?
b. What is the current beta on Forever's common stock?
c. What would Forever's beta be if the company had no debt in its capital structure?
Beta is a measure of company exposure to market risk (also known as systematic risk). A company with a beta of 1 has the same level of exposure to market risk as a portfolio of all market securities. A beta of 0.5 implies half as much exposure to market risk; a beta of 2 implies twice as much exposure.
Answer and Explanation: 1
Part a: Current WACC
Weighted Average Cost of Capital is found by multiplying the capital structure weights by their related cost of capital (e.g....
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fromChapter 12 / Lesson 3
In this lesson, we'll discuss how investors must understand the systematic risk principle in their portfolio. We'll also explain how investors can measure and define the risk of their portfolios using betas.