Assume that currently US Treasury Bonds have a yield of 2.1%.

a) From 2018 to 2022, the annual market returns were 8%, -3%, 15%, 6%, and 4%. During the same years Tesla’s annual stock returns were 16%, -9%, 20%, 11%, and 1%. What is the equity beta and expected equity return of Tesla using these five years of data? (Hint: first calculate the covariance between Tesla’s stock and the market to find Tesla’s equity beta.)

b) In mid-2022 Ford decides to expand their operations into electric vehicles. As a comparable company, the CEO of Ford has identified Tesla, which currently has a Debt- to-Equity Ratio of 2. Ford’s stock price is $40 per share, with 12 million shares outstanding. It also has $120 million in outstanding corporate debt, with an average credit rating of A- and a debt-beta of 0.05. Assume that Tesla’s cost of debt capital is 4.44% and that Tesla’s equity beta is similar to part (a). First, find the debt-beta and the asset-beta of Tesla. Then, determine the appropriate after- tax WACC for Ford’s expansion project if the company will be subject to a 25% corporate tax rate.

Answer rating: 100% (QA)

a To calculate the equity beta of Tesla we need to find the covariance between Teslas stock returns and the market returns and then divide it by the v... View the full answer