Question

A project under consideration has an internal rate of return of 14% and a beta of 0.8. The risk-free rate is 4%, and the expected rate of return on the market portfolio is 14%.

a. What is the required rate of return on the project? (Do not round intermediate calculations. Enter your answer as a whole percent.)

b. Should the project be accepted? Yes or No?

c. What is the required rate of return on the project if its beta is 1.80? (Do not round intermediate calculations. Enter your answer as a whole percent.)

d. Should the project be accepted? Yes or No?

Answer 1

a

As per CAPM

expected return = risk-free rate + beta * (expected return on the market - risk-free rate)

Expected return% = 4 + 0.8 * (14 - 4)

Expected return% = 12

b

Accept project as IRR is more than required rate

c

As per CAPM

expected return = risk-free rate + beta * (expected return on the market - risk-free rate)

Expected return% = 4 + 1.8 * (14 - 4)

Expected return% = 22

d

Reject project as IRR is less than required rate