Using the CAPM to calculate the cost of capital for a risky project assumes that:
A) using the firm's beta is the same measure of risk as the project.
B) the firm is all-equity financed.
C) the financial risk is equal to business risk.
D) Both using the firm's beta is the same measure of risk as the project; and the firm is all-equity financed.
E) Both using the firm's beta is the same measure of risk as the project; and the financial risk is equal to business risk.

Question

Quizplus · Accepted Answer

The CAPM assumes that the cost of capital for a risky project is equal to the risk-free rate plus a risk premium that is proportional to the project's beta. The project's beta is a measure of the project's systematic risk, which is the risk that cannot be diversified away. The firm's beta is a measure of the firm's systematic risk. If the firm is all-equity financed, then the firm's beta is the same as the project's beta. Therefore, the CAPM can be used to calculate the cost of capital for a risky project if the firm is all-equity financed and the project's beta is the same as the firm's beta.

Using the CAPM to Calculate the Cost of Capital for a Risky