a) Your company is planning to invest in a new state of the art surveillance system and has drawn to Jaldon Enterprises Limited, an all equity company that specializes in this business. If Jaldons equity beta is 0.95, the risk free rate is 3%, and the market risk rate is 4%. Assuming your companys project is all equity financed; estimate the cost of capital you would use for the project if Jaldon could be deemed to be a suitable proxy company.(3 marks)

b) You decide to look for other comparable companies to reduce estimation error in your cost of capital estimate. You find a second company, JSCD Limited, which is also engaged in a similar line business. Some relevant features of JSCD Limited are:

Stock price - $15 per share

It has 20 million shares outstanding

$100 million preferred stock at 3.5%

There is $100 million in outstanding debentures, with a yield of 4.5%

JSCD Limited observed beta is 1.0 Its corporate tax rate is 40%

Given a beta of 0.933 use this and Capital Market (CAPM) (for common equity) to compute the weighted average cost of:

i. common equity (3 marks)

ii. Debt (2 marks)

iii. Preferred stock (2 marks)

iv. Estimate the companys cost of capital. (2 marks)

c) Define and explain the term capital structure (1 mark)

d) Provide two assumptions of CAPM (1 mark) e) Provide two limitations to CAPM (1 mark)