Hi :) can you please solve this thank you! You are given the following informati
ID: 2738408 • Letter: H
Question
Hi :) can you please solve this thank you!
You are given the following information for Wine and Cork Enterprises (WCE):
rRF = 3%; rM = 7%; RPM = 4%, and beta = 1.1
A.) What is WCE's required rate of return? Round your answer to 2 decimal places. Do not round intermediate calculations
B.)If inflation increases by 2% but there is no change in investors' risk aversion, what is WCE's required rate of return now? Round your answer to two decimal places. Do not round intermediate calculations
C.) Assume now that there is no change in inflation, but risk aversion increases by 2%. What is WCE's required rate of return now? Round your answer to two decimal places. Do not round intermediate calculations
D.) If inflation increases by 2% and risk aversion increases by 2%, what is WCE's required rate of return now? Round your answer to two decimal places. Do not round intermediate calculations
Explanation / Answer
A) WCE' s required rate of return = Risk free rate (rRF) + Beta * Market Risk Premium (RPM)
= 3 + 1.1 * 4
= 7.4 %
B) If inflation increases by 2% but there is no change in investors' risk aversion,WCE's required rate of return now = Risk free rate (rRF) + Beta * Market Risk Premium (RPM)
= 6(NOTE 1) + 1.1 * 4
= 10.4 %
(NOTE 1):- Due to increase in inflation by 2 %, Risk free rate (rRF) will also increase by 2%, Thus, revised risk free rate (rRF) = 3 * 2 = 6 %
C) Assume now that there is no change in inflation, but risk aversion increases by 2%. WCE's required rate of return now:-
= Risk free rate (rRF) + Beta * Market Risk Premium (RPM)
= 3 + 1.1 * 8 (NOTE 2)
= 11.8 %
(NOTE 2):- Due to increase in risk aversion by 2 %, Market Risk Premium (RPM) will also increase by 2%, Thus, Market Risk Premium (RPM) = 4 * 2 = 8 %
D) If inflation increases by 2% and risk aversion increases by 2%, WCE's required rate of return now:-
= Risk free rate (rRF) + Beta * Market Risk Premium (RPM)
= 6(NOTE 3) + 1.1 * 8(NOTE 4)
= 14.8 %
(NOTE 3) :- Due to increase in inflation by 2 %, Risk free rate (rRF) will also increase by 2%, Thus, revised risk free rate (rRF) = 3 * 2 = 6 %
(NOTE 4):- Due to increase in risk aversion by 2 %, Market Risk Premium (RPM) will also increase by 2%, Thus, Market Risk Premium (RPM) = 4 * 2 = 8 %
Conclusion:-
Situation WCE's required rate of return A) 7.4 % B) 10.4 % C) 11.8 % D) 14.8 %