Division Asset Beta Next Period\'s Expected Free Cash Flow ($mm) Expected Growth
ID: 2623695 • Letter: D
Question
Division
Asset
Beta
Next Period's Expected Free Cash
Flow ($mm)
Expected
Growth
Rate
Oil Exploration
1.4
450
4.0%
Oil Refining
1.1
525
2.5%
Gas and Convenience Stores
0.8
600
3.0%
The risk-free rate of interest is 3% and the market risk premium is 5%.
1) Which is the cost of capital for the oil exploration division closest to?
A) 6.0%
B) 7.0%
C) 8.5%
D) 10.0%
Division
Asset
Beta
Next Period's Expected Free Cash
Flow ($mm)
Expected
Growth
Rate
Oil Exploration
1.4
450
4.0%
Oil Refining
1.1
525
2.5%
Gas and Convenience Stores
0.8
600
3.0%
Explanation / Answer
cost of capital = riskfree rate + beta * market risk premium
= 3% + 1.4 * 5%
= 10%
D is the answer