The correct answer is C. 8.00%.
The cost of common stock is the expected return that investors require on a common stock investment. The bond risk premium is the additional return that investors require on a bond investment over and above the risk-free rate of return. The risk-free rate of return is the return that investors expect on an investment that is considered to be free of risk.
The bond yield is the annual rate of return that an investor earns on a bond investment. The bond yield is calculated by dividing the annual interest payment by the bond price.
In this case, the cost of common stock is 13% and the bond risk premium is 5%. The risk-free rate of return is assumed to be 3%. Therefore, the bond yield is 8%.
The following is a brief explanation of each option:
- Option A: 20.00% is the cost of common stock plus the bond risk premium. This is not the correct answer because the bond yield is not equal to the cost of common stock plus the bond risk premium.
- Option B: 2.60% is the risk-free rate of return plus the bond risk premium. This is not the correct answer because the bond yield is not equal to the risk-free rate of return plus the bond risk premium.
- Option C: 8.00% is the bond yield. This is the correct answer because the bond yield is calculated by dividing the annual interest payment by the bond price.
- Option D: 18.00% is the cost of common stock plus the risk-free rate of return. This is not the correct answer because the bond yield is not equal to the cost of common stock plus the risk-free rate of return.