Question

​Risk-adjusted rates of return using CAPM   Centennial​ Catering, Inc., is considering two mutually exclusive investments. The company wishes to use a​ CAPM-type risk-adjusted discount rate​ (RADR) in its analysis.​ Centennial's managers believe that the appropriate market rate of return is 12.1 %​, and they observe that the current​ risk-free rate of return is 6.5 %. Cash flows associated with the two projects are shown in the following table.  ​(Click on the icon located on the​ top-right corner of the data table below in order to copy its contents into a​ spreadsheet.)

   ProjectX   Project Y
Initial investment (CF0)   $75,000   $85,000
Year (t)   Cash inflows  
1   $26,000   $23,000
2   26,000   34,000
3   26,000   36,000
4   26,000   49,000

a. Use a ​risk-adjusted discount rate approach to calculate the net present value of each​ project, given that project X has an RADR factor of

1.241.24

and project Y has an RADR factor of

1.411.41.

The RADR factors are similar to project betas.

b. Discuss your findings in part

​(a​)​, and recommend the preferred project.

Answer 1