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Problem 15-03 Premium for Financial Risk Ethier Enterprise has an unlevered beta of 1.05. Ethier is...

Problem 15-03
Premium for Financial Risk

Ethier Enterprise has an unlevered beta of 1.05. Ethier is financed with 50% debt and has a levered beta of 1.35. If the risk free rate is 4.5% and the market risk premium is 5%, how much is the additional premium that Ethier's shareholders require to be compensated for financial risk? Round your answer to two decimal places.

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Answer #1

Unlevered Beta = 1.05
Levered Beta = 1.35
Risk-free Rate = 4.50%
Market Risk Premium = 5.00%

Unlevered Required Return = Risk-free Rate + Unlevered Beta * Market Risk Premium
Unlevered Required Return = 4.50% + 1.05 * 5.00%
Unlevered Required Return = 9.75%

Levered Required Return = Risk-free Rate + Levered Beta * Market Risk Premium
Levered Required Return = 4.50% + 1.35 * 5.00%
Levered Required Return = 11.25%

Additional Premium = Levered Required Return - Unlevered Required Return
Additional Premium = 11.25% - 9.75%
Additional Premium = 1.50%

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