PROBLEM #1 CHAPTER 8 1. Is each of the following statements true or false? Expla

Question

PROBLEM #1 CHAPTER 8

1. Is each of the following statements true or false? Explain your answers briefly.

a. Using the same risk-adjusted discount rate to discount all future cash flow ignores the fact that the more distant cash flows are often riskier than cash flow occurring sooner.

b. The cost of capital, or WACC, is not the correct discount rate to use for all projects undertaken by a firm.

c. If you can borrow all of the money you need for a project at 6%, the cost of capital for this project is 6%.

d. The best way to estimate the cost of debt capital for a firm is to divide the interest-bearing debt on the balance sheet.

e. One reliable estimate of a privately held firms equity beta is the average of the equity betas of several publicly held competitors.

Explanation / Answer

a-true

b-true

c-false

e) is true. beacuase for the beta for the entire firm as a weighted average of the betas for the individual projects.

d) true. explanation :

If we divide the costs of capital into debt and equity portions of the firm, then we can use the above to arrive at the weighted average cost of capital (WACC) for the firm:

kFirm = xDebtkDebt + xEquitykEquity

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