A) The WACC as used in capital budgeting is an estimate of a company's before-tax cost of capital.
B) The percentage flotation cost associated with issuing new common equity is typically smaller than the flotation cost for new debt.
C) The WACC as used in capital budgeting is an estimate of the cost of all the capital a company has raised to acquire its assets.
D) There is an "opportunity cost" associated with using retained earnings, hence they are not "free."
E) The WACC as used in capital budgeting would be simply the after-tax cost of debt if the firm plans to use only debt to finance its capital budget during the coming year.
G) All of the above
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B) False
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A) If a firm has a beta that is less than 1.0, say 0.9, this would suggest that the expected returns on its assets are negatively correlated with the returns on most other firms' assets.
B) If a firm's managers want to maximize the value of the stock, they should, in theory, concentrate on project risk as measured by the standard deviation of the project's expected future cash flows.
C) If a firm evaluates all projects using the same cost of capital, and the CAPM is used to help determine that cost, then its risk as measured by beta will probably decline over time.
D) Projects with above-average risk typically have higher-than-average expected returns. Therefore, to maximize a firm's intrinsic value, its managers should favor high-beta projects over those with lower betas.
E) Project A has a standard deviation of expected returns of 20%, while Project B's standard deviation is only 10%. A's returns are negatively correlated with both the firm's other assets and the returns on most stocks in the economy, while B's returns are positively correlated. Therefore, Project A is less risky to a firm and should be evaluated with a lower cost of capital.
G) C) and D)
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B) False
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A) 1.13%
B) 1.50%
C) 1.88%
D) 2.34%
E) 2.58%
G) All of the above
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A) 8.15%
B) 8.48%
C) 8.82%
D) 9.17%
E) 9.54%
G) B) and C)
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A) M should have the lower WACC because it is like most other companies, and investors like that fact.
B) M and W should have identical WACCs because their risks as measured by the standard deviation of returns are identical.
C) If M and W merge, then the merged firm MW should have a WACC that is a simple average of M's and W's WACCs.
D) Without additional information, it is impossible to predict what the merged firm's WACC would be if M and W merged.
E) Since M and W move counter cyclically to one another, if they merged, the merged firm's WACC would be less than the simple average of the two firms' WACCs.
G) B) and E)
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A) 8.72%
B) 9.08%
C) 9.44%
D) 9.82%
E) 10.22%
G) C) and E)
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A) When calculating the cost of preferred stock, a company needs to adjust for taxes, because preferred stock dividends are deductible by the paying corporation.
B) All else equal, an increase in a company's stock price will increase its marginal cost of retained earnings, rs.
C) All else equal, an increase in a company's stock price will increase its marginal cost of new common equity, re.
D) Since the money is readily available, the after-tax cost of retained earnings is usually much lower than the after-tax cost of debt.
E) If a company's tax rate increases but the YTM on its noncallable bonds remains the same, the after-tax cost of its debt will fall.
G) A) and B)
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