Problem 1 Current price to book ratio = Expected growth rate= Current Beta Risk-free Rate Equity Risk Premium a. Current cost of equity ROE b. Book equity increases by New Equity Risk Premium New return on equity New cost of equity New price to book ratio 1.5 3% 1 5% 4% 20% 6% Qualtitative answer PROJECT #2: Relative and Private Equity Valuations 1. First Safe Interstate Bank is a small, regional bank that is trading at a price to book (equity) ratio of 1.50. The bank is in stable growth, with earnings and dividends expected to grow 3% a year in perpetuity. The stock has a beta of 1, the risk-free rate is 5% and the equity risk premium is 4%. a. Assuming that the market has priced this stock correctly, estimate the expected returnon equity for the bank. (20 points) b. Now assume that as a result of the banking crisis of the last few weeks, you expect the regulatory authorities to raise capital requirements immediately for banks by 20%. (Banks will need 20% more book equity to deliver the same net income). Also, assume that the equity risk premium has risen to 6%. If the stable growth rate remains 3%, estimate the new price to book equity ratio for First Safe Interstate Bank. (20 points)