Question

Two companies, A and B, are worth $9 million and $6 million, respectively. A and B have CAPM expected rates of returns of 11.2% and 17.3%, respectively. If the two companies merge, what will the conglomerate's CAPM expected rates of return be?

Answer 1

After merging companies A and B, the conglomerate's expected CAPM rate of return would be 13.64%, calculated by weighting the individual expected rates of return by their respective market values.

Step-by-step explanation:

This question requires us to calculate the expected rate of return for a conglomerate resulting from the merger of two companies using the Capital Asset Pricing Model (CAPM). The CAPM expected rates of return for Company A and Company B are 11.2% and 17.3%, respectively. The values of Company A and Company B are $9 million and $6 million. To find the expected rate of return for the merged company, we weight the individual expected rates of return by the value of the respective companies.

The weighted rate of return can be calculated as follows:

(Company A's value / Total value) * Company A's rate of return + (Company B's value / Total value) * Company B's rate of return

Which translates to:

(9 million / 15 million) * 11.2% + (6 million / 15 million) * 17.3%

Calculating the weighted average:

(0.6 * 11.2%) + (0.4 * 17.3%) = 6.72% + 6.92% = 13.64%

Therefore, if companies A and B merge, the conglomerate's CAPM expected rate of return would be 13.64%.