Company X operates in a retail industry funded 60% by debt, and Company Y also operates in the retail sector and is 80% financed by debt and has a beta of 0.7 Additional information The market return is 13%, and the debt of company X consists of . A bank loan of 8.5% interest per annum . 5-year GVN bonds are currently yielding at 7% . The tax rate is 28%Requireda) Determine suitable beta for company xb) Highlight the difference between systematic and unsystematic risk and the impact of beta on a company c) Calculate the cost of equity of the company xd) Calculate the weighted cost of the average of the company xe) If the company has an opportunity to invest in a project with an annual return of 13% p.a.Advise whether the company should accept the project or not?

a) To determine the suitable beta for Company X, we need to adjust the beta of Company Y to reflect the difference in financial leverage between the two companies. This can be done using the formula:

Beta (Company X) = Beta (Company Y) * [1 + (1 - Tax Rate) * (Debt/Equity ratio of Company X - Debt/Equity ratio of Company Y)]

Given that Company X is 60% financed by debt, its Debt/Equity ratio is 60/40 = 1.5. Similarly, Company Y's Debt/Equity ratio is 80/20 = 4.

Substituting these values into the formula, we get:

Beta (Company X) = 0.7 * [1 + (1 - 0.28) * (1.5 - 4)] = 0.7 * [1 - 0.72 * 2.5] = 0.7 * -0.8 = -0.56

However, beta cannot be negative as it represents the systematic risk of a security relative to the market. Therefore, there might be a mistake in the calculation or the given information.

b) Systematic risk refers to the risk inherent to the entire market or market segment. It is unpredictable and cannot be completely eliminated through diversification. Examples include interest rate changes, inflation, recessions, and wars. Beta measures the systematic risk of a security.

Unsystematic risk, on the other hand, is company-specific or industry-specific risk. This type of risk can be reduced through diversification. Examples include management performance, labor strikes, and product recalls.

A higher beta indicates that the security is more volatile than the market, and thus has a higher level of systematic risk. Conversely, a lower beta indicates that the security is less volatile than the market.

c) The cost of equity can be calculated using the Capital Asset Pricing Model (CAPM), which is:

Cost of Equity = Risk-Free Rate + Beta * (Market Return - Risk-Free Rate)

Assuming the risk-free rate is the yield on the 5-year GVN bonds, which is 7%, the cost of equity for Company X is:

Cost of Equity = 7% + 0.7 * (13% - 7%) = 11.2%

d) The weighted average cost of capital (WACC) is the average rate of return a company is expected to pay its investors; the weights are the proportion of debt and equity in the company's capital structure. The WACC is calculated as follows:

WACC = (Cost of Equity * % of financing from equity) + (Cost of Debt * % of financing from debt * (1 - Tax Rate))

Assuming the cost of debt is the interest rate on the bank loan, which is 8.5%, the WACC for Company X is:

WACC = (11.2% * 40%) + (8.5% * 60% * (1 - 28%)) = 4.48% + 3.66% = 8.14%

e) If the return on the project (13%) is higher than the WACC (8.14%), the project adds value to the company and should be accepted.