Question
Suppose you borrow $50,000 when financing a coffee shop with a cost of $65,000. You expect to generate a cash flow of $65,000 at the
Suppose you borrow $50,000 when financing a coffee shop with a cost of $65,000. You expect to generate a cash flow of $65,000 at the end of the year if demand is weak, $81,250 if demand is as expected and $89,375 if demand is strong. Each scenario is equally likely. The current risk-free interest rate is 5% (risk of debt) and there's an 9% risk premium for the risk of the assets:
A) What should the value of the equity be?
B) What is the expected return?
C) What would be the return of equity if the demand is strong?
D) What would be the return of equity if the demand is weak?
E) What would be the expected return if you borrowed $30,000 instead?
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