Suppose that two firms, A and B, are considering the same project. The project is in the same risk class as firm A's overall operations. The project has an IRR of 13.0 percent. Firm A has a beta of 1.2, while firm B's beta is 0.9. The risk-free rate is 4.5 percent and the market risk premium is 7.0 percent. Which firm (s) should accept the project? A) firm A onlyB) firm B onlyC) both firms A and BD) neither firm A nor BE) The answer cannot be determined without more information.

Question

Ross

Business

26 February, 21:51

Suppose that two firms, A and B, are considering the same project. The project is in the same risk class as firm A's overall operations. The project has an IRR of 13.0 percent. Firm A has a beta of 1.2, while firm B's beta is 0.9. The risk-free rate is 4.5 percent and the market risk premium is 7.0 percent. Which firm (s) should accept the project? A) firm A onlyB) firm B onlyC) both firms A and BD) neither firm A nor BE) The answer cannot be determined without more information.

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Alisa Williamson · Answer 1

Firm A should accept the project beacause it has high required rate of return which means low risk involved.

Explanation:

Rate of return = risk free return + Beta (market risk premium)

Firm A

rate of return = 0.045 + 1.2 (0.07)

= 0.045 + 0.084

= 12.9%

Firm B;

rate of return = 0.045 + 0.9 (0.07)

= 0.045 + 0.063

= 10.8%