In: Accounting
Dreamtimes, Inc. is a pharmaceutical company with 100 million shares trading at $10/share and debt outstanding of $ 250 million. The firm has a levered beta of 1.00 and a pre-tax cost of debt of 4.5%. The risk-free rate is 3.5%, the marginal tax rate is 40% and the equity risk premium is 5%.
What is the cost of equity capital?
COST OF EQUITY CAPITAL |
CAPITAL ASSET PRICING MODEL(CAPM) |
Ke=Rf + β ( Rm-Rf) |
Ke= 3.5 % + 1(5%) |
Ke =8.5% |
NOTE |
Rf =risk free rate of return =3.5% |
β = Beta factor = 1.00 |
Rm = return on market portfolio |
Rm-Rf = equity risk premium or stock market risk premium =5% |