Question
Problem 5: CAPM and Cost of Capital (20 marks) Columbia Gas Company (CGC) is a publicly listed company with a current share price of $25
Problem 5: CAPM and Cost of Capital (20 marks)
Columbia Gas Company (CGC) is a publicly listed company with a current share price of $25 per share. CGC has 33 million shares outstanding and $100 million in long-term debt. CGCs long-term debt consists of bonds issued with a face value of $100 million with 10 years to maturity with annual coupon rate of 11% (APR). The long-term bonds are currently trading at par value.
Columbia Gas Company (CGC) has a standard deviation of 36% and a correlation with the market of 0.85. Assume the risk-free rate is 4% and the market portfolio has an expected return of 13% and a standard deviation of 22%. The corporate tax rate is 30%.
- What are the three main assumptions of capital asset pricing model (CAPM)? Are these assumptions realistic in the real world? Explain. (6 marks)
- Calculate CGCs beta with the market? (3 marks)
- Calculate CGCs cost of equity? (3 marks)
- Calculate CGCs after-tax cost of debt? (3 marks)
- Calculate CGCs weighted average cost of capital (WACC)? (5 marks)
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