The Fraber Corporation's common stock has a beta of 0.6. If the risk-free rate is 1.7% and the...

Question:

The Fraber Corporation's common stock has a beta of 0.6.

If the risk-free rate is 1.7% and the expected return on the market is 10%, what is the company's cost of equity capital? (Do not round intermediate calculations. Enter answer as a percent rounded to 2 decimal places.)

Capital Asset Pricing Model (CAPM):

The capital asset pricing model (CAPM) is used to ascertain the rate of return required by shareholders of a firm for the equity financing. It takes into consideration the risk-free rate prevailing on the government securities, the beta coefficient for the firm and the market risk premium on the stock.

The calculated value of the company's required return is 6.68%.

The market risk premium is given by:

• = Market return - risk-free rate
• = 10% - 1.7%
• = 8.3%

The required rate of return for the company as per the CAPM (Capital Asset Pricing Model) equation is given by:

• = Risk-free rate + (beta * market risk premium)
• {eq}= 1.7\% + (0.6 * 8.3\%) {/eq}
• {eq}= 1.7\% + 4.98\% {/eq}
• = 6.68%