Norris Enterprises, an All-Equity Firm, Has a Beta of 2

question 72

Multiple Choice

Norris Enterprises, an all-equity firm, has a beta of 2.0. The chief financial officer is evaluating a project with an expected return of 14%, before any risk adjustment. The risk-free rate is 5%, and the market risk premium is 4%. The project being evaluated is riskier than an average project, in terms of both its beta risk and its total risk. Which of the following statements is CORRECT?

• A) The project should definitely be accepted because its expected return (before any risk adjustments) is greater than its required return.
• B) The project should definitely be rejected because its expected return (before risk adjustment) is less than its required return.
• C) Riskier-than-average projects should have their expected returns increased to reflect their higher risk. Clearly, this would make the project acceptable regardless of the amount of the adjustment.
• D) The accept/reject decision depends on the firm's risk-adjustment policy. If Norris' policy is to increase the required return on a riskier-than-average project to 3% over rS, then it should reject the project.
• E) Capital budgeting projects should be evaluated solely on the basis of their total risk. Thus, insufficient information has been provided to make the accept/reject decision.

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Definitions:

Striations

A series of ridges, furrows, or linear marks, frequently found in muscle tissue and certain types of rocks.

Cardiac Muscle

A specialized type of muscle found only in the heart, responsible for pumping blood throughout the body.

Skeletal Muscle

A type of muscle tissue that is attached to bones and responsible for voluntary movements of the body.

Uninucleated

Having only one nucleus per cell, characteristic of most human cells except for certain muscle cells and some fungi.