Risk, Cost of Capital, and Valuation

What is the fundamental rule for determining the discount rate of a project?

According to the Capital Asset Pricing Model (CAPM), what three components are necessary to estimate a firm's cost of equity capital?

An all-equity firm has a beta of 1.3. The market risk premium is 8.4 percent, and the risk-free rate is 5 percent. What is the appropriate discount rate for a new project that is similar in risk to the firm's existing ones?

When using the Dividend Discount Model (DDM) to estimate the market risk premium, what two components are summed to find the expected return on the market?

What is the primary advantage of using an industry beta over a company's own historical beta when estimating the cost of equity?

Which of the following factors is NOT one of the three main determinants of a company's beta discussed in the chapter?

A company has an asset beta of 0.8 and decides to change its capital structure to one part debt for every two parts equity. Assuming a zero beta for its debt, what will the company's new equity beta be?

When is it most appropriate for a firm to use a single corporate discount rate (like the WACC) for all its projects?

What is the primary reason for using an aftertax figure for the cost of debt in the WACC calculation, but a pretax figure for the cost of equity?

A firm has a market value of debt of $40 million and a market value of equity of $60 million. Its cost of debt is 5 percent and its cost of equity is 14.40 percent. If the corporate tax rate is 34 percent, what is the firm's WACC?

What is the primary difference in how the Adjusted Present Value (APV) approach and the Weighted Average Cost of Capital (WACC) approach account for the tax benefit of debt?

When valuing a project with a changing debt-to-value ratio over its life, such as in a leveraged buyout (LBO) with rapid debt repayment, which valuation approach is generally preferred?

A firm is considering issuing new bonds. Its existing bonds, issued two years ago with a 7 percent coupon, are now trading at a yield of 8 percent. What should the firm consider its cost of new debt to be?

What is the primary drawback of using the Dividend Discount Model (DDM) to estimate the cost of equity compared to the CAPM?

A publishing firm is considering a new project in the computer software industry. Why would it be incorrect for the firm to use its own corporate WACC to evaluate this project?

A firm has a target debt-equity ratio of 0.6. Its cost of debt is 5.15 percent, and its cost of equity is 10 percent. The corporate tax rate is 34 percent. What is the firm's weighted average cost of capital?

What is the primary reason that flotation costs are not typically included by adjusting the WACC upward?

A company has a target capital structure of 80 percent equity and 20 percent debt. Flotation costs are 20 percent for equity and 6 percent for debt. If the company needs to raise $65 million for a new facility, what is the true cost of the project including flotation costs?

In the context of the Dividend Discount Model (DDM), which of the following is NOT a method mentioned for estimating the dividend growth rate 'g'?

A company with a corporate tax rate of 34 percent borrows money at an interest rate of 10 percent. What is the aftertax cost of debt for this company?

Why are market value weights considered more appropriate than book value weights when calculating the WACC?

An all-equity firm with a beta of 1.21 is evaluating a project. The market risk premium is 9.5 percent and the risk-free rate is 5 percent. What is the firm's cost of equity capital?

Which of the following describes the relationship between a firm's asset beta and its equity beta for a levered firm (assuming a positive asset beta and zero debt beta)?

What is the cost of capital for preferred stock that sells for $17.16 per share and pays a constant annual dividend of $1.50?

If a firm uses its overall WACC of 15 percent to evaluate all projects, what error is it likely to make regarding project selection?