acme conglomerate corporation operates three divisions. One division involves si

Question

acme conglomerate corporation operates three divisions. One division involves significant ressearch and deveopment, and thus has a high risk cost of capital of 15%. The second division operates in business segments related to acmes core businessand this diviion has a cost of capital of 10% based upon its risk. Acames core business is the least risky segment with a cost of capital of 8%. The firsms overall weighted average cost of capital of 11 % has been used to evaluated capital budgeting projects for all three divisions. This approach will
a. favor projects in the core buisness division because that division is the least risky
b. favor projects in the research and development division because the higher risk projects look more favorable if a lower cost of capital is used to evaluate them
c. not favor any division over theother because they all use the same company wide weighted average cost of capital
d. favor projects in the related bsiness division because the cost of capital for this division is the closet to the firms weighted average cost of capital

Explanation / Answer

b. favor projects in the research and development division because the higher risk projects look more favorable if a lower cost of capital is used to evaluate them

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