1.An analyst is attempting to estimate the weighted average cost of capital (WACC) for an emerging market manufacturer. The emerging market country has experienced high inflation in recent years. She estimates each component of WACC as follows: Risk-free rate: 10-year U.S. government bond yield + inflation differential between the local market and U.S. market. Beta: From a regression of the manufacturer's stock returns on the country's market equity index. Market risk premium: 6.0%, which is the geometric average nominal risk premium on the country's equity index over the past 12 years. Pre-tax cost of debt: local risk-free rate plus the credit spread on U.S. corporate bonds rated B+. Marginal tax rate: 35%, which reflects all government taxes that are applied to interest expense on corporate bonds. Capital structure weights: Average capital structure weights for global industry competitors. Has the analyst overestimated the cost of equity capital and the WACC?

A)                   Yes                                        No

B)                    No                                        Yes

C)                   Yes                                       Yes

D)                    No                                         No

答案和详解如下：

1.An analyst is attempting to estimate the weighted average cost of capital (WACC) for an emerging market manufacturer. The emerging market country has experienced high inflation in recent years. She estimates each component of WACC as follows: Risk-free rate: 10-year U.S. government bond yield + inflation differential between the local market and U.S. market. Beta: From a regression of the manufacturer's stock returns on the country's market equity index. Market risk premium: 6.0%, which is the geometric average nominal risk premium on the country's equity index over the past 12 years. Pre-tax cost of debt: local risk-free rate plus the credit spread on U.S. corporate bonds rated B+. Marginal tax rate: 35%, which reflects all government taxes that are applied to interest expense on corporate bonds. Capital structure weights: Average capital structure weights for global industry competitors. Has the analyst overestimated the cost of equity capital and the WACC?

Cost of equity?

WACC?

A)                    Yes                                         No

B)                     No                                         Yes

C)                   Yes                                         Yes

D)                     No                                          No

The correct answer was C)

The analyst has most likely correctly estimated the risk free rate, the pre-tax cost of debt, the marginal tax rate, and the capital structure weights. However, she has most likely incorrectly estimated the market risk premium and beta: The best recommendation for estimating the market risk premium is to use a long-term average risk premium on a global market index. The topic review suggests a range of 4.5% to 5.5%. The market risk premium is overestimated using 6.0% based on recent risk premiums in the equity markets. Beta should be estimated based on a regression of the industry's stock returns on a global market index. The analyst has overestimated both beta and the market risk premium. The result is that she has also overestimated the cost of equity capital and the WACC.