Essay - Cost of Equity 1. the Yield to Maturity on a...

Cost of Equity

1. The yield to maturity on a one-ye*****r government treasury note (maturity July 30, 2009) is 2.32%, according to Bloomberg.com, as of July 30, 2008. Another source had listed a composite 1-year rate at 2.33%, so we will simply use the 2.32% ***** since the rates are in line with one ano*****r.

*****. If Rm-Rf = 7%, the market risk rate is Rf + *****%

2.32% + 7% = Rm

***** = 9.32%

3. The beta of Johnson & Johnson (NYSE: JNJ) is 0.36, according to Reuters, ***** ***** ***** 30, *****.

***** cost of equity for Johnson & Johnson is equal to the r*****k free ***** plus the beta multiplied by the ma*****et risk, as per CAPM.

So Rj = ***** + B (Rm-Rf)

Rj = 2.32 + 0.36 (9.32 - 2.32)

Rj = 4.84%

Thus, 4.84% is considered to be the cost of equity for Johnson & Johnson. Th***** represents a lo*****r risk th*****n that of the market as a whole, but more than ***** risk-free rate. This risk premium is used to determine the return that sh*****holders must from JNJ on ***** company's investments. *****'s core businesses are relatively stable, and the company has diversified away some of its market ***** through multiple business *****s and strong geographic diversification. There*****e, ***** cost ***** equity is relatively low.

4. The tax rate of JNJ is assumed to be 34%.

The debt-to-***** ratio by ***** value, as calculated from the previous report, ***** 21.9%

Therefore the asset beta ***** Johnson ***** ***** is as follows:

Ba = [1+ (*****-T)(D*/E*) / Be Ba = [1+(1-.34)(.*****)] / 0.36

***** = 3.179

***** am not surprised by ***** *****set beta of Johnson and Johnson. The asset beta reflects the degree to which the company's business performance is related to the overall performance of the economy. Intuitively, JNJ's ***** ***** ***** strongly related ***** the economy. *****y product everyday consumer products that are not luxury items, and they produce pharmaceuticals ***** again are fairly essential items to their consumers. This reduces the demand elasticity, which will be reflected in a low-risk business. The asset beta of JNJ is above ***** risk-free rate, representing some ***** risk, but ***** much. The business is *****, and the company's financials are as well. ***** relatively low ***** beta reflects this stability ***** demand in*****.

Works Cited

Treasury *****s *****d from Bloomberg, retrieved July *****, 2008 at http://www.bloomberg.com/markets/rates/

Beta ***** JNJ sourced from *****, retrieved July 30, ***** at http://www.reuters.com/finance/stocks/overview?symbol=JNJ.N

Debt/Equity of JNJ sourced from Reuters, retrieved ***** 30, 2008 at