Rock Inc. - Required Rate of Return Calculation

Required Rate of Return Calculation

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Question

Rock Inc. maintains a policy of paying 30% of earnings to its investors in the form of dividends. Rock is expected to generate a return on equity of 9.3%. Rock's beta is 1.5. The equity risk premium is 6% and U.S. Treasury notes are yielding 3%. Rock's required rate of return is closest to:

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A. B. C.

A

To calculate Rock Inc.'s required rate of return, we can use the capital asset pricing model (CAPM). The CAPM is a widely used model for determining the expected return on an investment based on its beta and the risk-free rate of return.

The formula for CAPM is as follows:

Required rate of return = Risk-free rate + Beta * Equity risk premium

Let's plug in the given values:

Risk-free rate = 3% Equity risk premium = 6% Beta = 1.5

Now we can calculate the required rate of return:

Required rate of return = 3% + 1.5 * 6% Required rate of return = 3% + 9% Required rate of return = 12%

Therefore, Rock Inc.'s required rate of return is 12%.

The correct answer is C. 12%.

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