Using the capital asset pricing model (CAPM), Sun State determined that the required rate of return for a capital budgeting project it is evaluating is equal to 18 percent. If U.S. Treasury bonds yield 7 percent and the market risk premium is 5 percent, what is the project's beta coefficient?
A)5.50
B)2.20
C)5.00
D)12.50
E)0.45

Question

Quizplus · Accepted Answer

The Capital Asset Pricing Model (CAPM) is:

Required Rate of Return = Risk-Free Rate + Beta (Market Risk Premium)
or
RRR = Rf + B(Rm - Rf)

We know that:

- RRR (Required Rate of Return) = 18%
- Rf (Risk-Free Rate) = 7%
- Rm (Market Rate of Return) - Rf (Risk-Free Rate) = Market Risk Premium = 5%

Substituting these values in the CAPM formula, we get:

18% = 7% + B(5%)

Solving for B, we get:

B = (18% - 7%) / 5%
B = 2.2

Therefore, the project's beta coefficient is 2.2. The answer is B.

Using the Capital Asset Pricing Model (CAPM), Sun State Determined