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In the video how do use CAPM to get the same answer 16.96 ie the answer of part a example 1. I tried using the formula with a random return to market but failed to get the same answer. Please help out with your solution with using a random number as your return to market
Question refered is from the lecture notes of AFM Example 1But you seem to have answered your own question in your post under the lecture 🙂
“This is what i did…
I took/assumed return to market as 9%
As we know the ungeared cost of equity (in the question). We can find out the beta.
15%(Ke ungeared) = 8% + beta (9%-8%)
ungeared equity beta = 7
equity beta is equal to asset beta as it was ungeared
Be=Ba = 7
using Ba formula – to find out what the Be
ungeared beta we know to be as 7. What we want is geared equity Beta to later calculate the geared cost of equity.
7=1/1+0.4(1-0.3)*Be
7=0.78125*Be
7/0.78125=Be Be=8.96
Now i applied the new Be to the CAPM formula
Ke = 8% + 8.96(9%-8%) =16.96
Then we can use WACC…and get the same answer!”
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