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Unformatted text preview: CHAPTER 13 RISK, COST OF CAPITAL, AND CAPITAL BUDGETING Answers to Concepts Review and Critical Thinking Questions 1. No. The cost of capital depends on the risk of the project, not the source of the money. 2. Interest expense is tax-deductible. There is no difference between pretax and aftertax equity costs. 3. You are assuming that the new projects risk is the same as the risk of the firm as a whole, and that the firm is financed entirely with equity. 5. The appropriate aftertax cost of debt to the company is the interest rate it would have to pay if it were to issue new debt today. Hence, if the YTM on outstanding bonds of the company is observed, the company has an accurate estimate of its cost of debt. If the debt is privately- placed, the firm could still estimate its cost of debt by (1) looking at the cost of debt for similar firms in similar risk classes, (2) looking at the average debt cost for firms with the same credit rating (assuming the firms private debt is rated), or (3) consulting analysts and...
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