Question

Butcher Timber Company hired your consulting firm to help them estimate the cost of equity. The yield on the firm's bonds is 10.50%, and your firm's economists believe that the cost of equity can be estimated using a risk premium of 3.85% over a firm's own cost of debt. What is an estimate of the firm's cost of equity from retained earnings?

Answer 1

Cost of Equity will be= 14.35%

Step-by-step explanation:

Cost of equity can be calculated as Risk free return+[beta*Risk Premium]

IN given case Risk free return will be yield on bond=10.05%

Risk Premium given=3.85%

But beta of company is not given, and market beta also not given, hence we can not calculate beta.

we can assume beta of company is 1, then-

Cost of Equity will be= 10.50%+3.85%= 14.35%

Note- Retained earning also not given so that we calculate based of retain earning.