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Dear Mr Moffat.
As per my understanding whenever the company embarks on a new project with a different risk profile. Capm comes into place.
We figure out the asset beta of a similar company and get the calculations sorted leading to discount factor. All good till here.
I was wondering what would happen if a company embarks on a different risk profile project with whole equity finance.
For example. 100 is equity financing. Relevant asset beta is 1.7
What would be the cost of capital?
If a project is entirely equity financed, then the equity beta will be equal to the asset beta. (Equity betas are only different (higher) than asset betas when there is gearing.)
So the answer is indeed 17.6%.
(Where this is particularly relevant is when calculating the Adjusted Present Value, because (as I explain in my free lectures) the base case NPV is always calculated as though the project is entirely equity financed.)
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