Use the information for the question(s)below.
The Aardvark Corporation is considering launching a new product and is trying to determine an appropriate discount rate for evaluating this new product.Aardvark has identified the following information for three single division firms that offer products similar to the one Aardvark is interested in launching:
-The unlevered cost of capital for Antelope Incorporated is closest to:
A)10.3%.
B)9.9%.
C)10.1%.
D)9.5%.

Question

Use the information for the question(s)below.
The Aardvark Corporation is considering launching a new product and is trying to determine an appropriate discount rate for evaluating this new product.Aardvark has identified the following information for three single division firms that offer products similar to the one Aardvark is interested in launching: 
-The unlevered cost of capital for Antelope Incorporated is closest to:
A)10.3%. 
B)9.9%. 
C)10.1%. 
D)9.5%.

Quizplus · Accepted Answer

To determine the unlevered cost of capital for Antelope Incorporated, we need to take the average of its equity beta and debt beta, weighted by their respective proportions in the company's capital structure. Using the information given, we have:

Equity beta for Antelope = 1.2
Debt beta for Antelope = 0.1
Total long-term debt for Antelope = $100 million
Total equity for Antelope = $400 million

Weight of equity in capital structure = $400 million / ($400 million + $100 million) = 0.8
Weight of debt in capital structure = $100 million / ($400 million + $100 million) = 0.2

Unlevered beta for Antelope = 1.2 / (1 + (1 - 0.35) * 0.1) = 1.0638
Unlevered cost of equity for Antelope = 5.5% + (1.0638 * 5%) = 10.2%
Unlevered cost of capital for Antelope = (0.8 * 10.2%) + (0.2 * 3.8%) = 9.96%, which is closest to choice B (9.9%).

Use the Information for the Question(s)below