Week 8 Lecture Illustration questions and Solutions-2 (1).pptx

• No School
• AA 1
• 12

This preview shows page 1 - 5 out of 12 pages.

Topic 8/9 Cost of Capital Lecture Illustrations and Tutorial Solutions

Subscribe to view the full document.

Question 1 The weights used to compute the weighted-average required rate of return (WACC) should be obtained using: a) the book value of a similar risk company b) the market value of debt and equity c) the book values of debt and equity d) the CAPM Solutions WACC = r = Σr i X i where: r = WACC r i = the cost of the ith source of funds X i = the weighting of the ith source of funds in the firm’s capital structure Each cost must be weighted by its relative importance to the total capital (market value) of the firm. ACCT1060/1063 2
where ACCT1060/1063 3 where: r e = cost of equity capital E = total market value of the firm’s equity V = total market value of the firm’s capital E/V = proportion of equity in the firm’s capital structure r d = cost of debt funds D = total market value of the firm’s debt capital D/V = proportion of debt in the firm’s capital structure E/V and D/V are the weights used to calculate the WACC. V D r V E r d e r : becomes WACC equity and debt funds of sources two Assume

Subscribe to view the full document.

Question 2 If the risk of a firm is identical to the risk of the project, the required rate of return for the firm may be applied to the project. Where the risk of the firm and project differ asolution is to use: a) the return for the market b) the WACC of the firm c) the return for the industry identical to that of the project d) none of the above Solutions If the risk of a project/investment/asset or the way in which a project/investment/asset is financed are similar to the overall risk of a firm and the overall way in which the firm is finance then the WACC of the firm can be used to undertake a NPV analysis of the project/investment/asset.
• Fall '19

What students are saying

• As a current student on this bumpy collegiate pathway, I stumbled upon Course Hero, where I can find study resources for nearly all my courses, get online help from tutors 24/7, and even share my old projects, papers, and lecture notes with other students.

Kiran Temple University Fox School of Business ‘17, Course Hero Intern

• I cannot even describe how much Course Hero helped me this summer. It’s truly become something I can always rely on and help me. In the end, I was not only able to survive summer classes, but I was able to thrive thanks to Course Hero.

Dana University of Pennsylvania ‘17, Course Hero Intern

• The ability to access any university’s resources through Course Hero proved invaluable in my case. I was behind on Tulane coursework and actually used UCLA’s materials to help me move forward and get everything together on time.

Jill Tulane University ‘16, Course Hero Intern

Ask Expert Tutors You can ask 0 bonus questions You can ask 0 questions (0 expire soon) You can ask 0 questions (will expire )
Answers in as fast as 15 minutes