ADJUSTING COST OF CAPITAL FOR RISK Ziege Systems is considering the following independent projects for the coming year:

Project Required Investment Rate of Return Risk A $4 million 14.0% High B 5 million 11.5 High C 3 million 9.5 Low D 2 million 9.0 Average E 6 million 12.5 High F 5 million 12.5 Average G 6 million 7.0 Low H 3 million 11.5 Low Ziege’s WACC is 10%, but it adjusts for risk by adding 2% to the WACC for high-risk projects and subtracting 2% for low-risk projects.

a. Which projects should Ziege accept if it faces no capital constraints?

b. If Ziege can only invest a total of $13 million, which projects should it accept and what would be the dollar size of its capital budget?

c. Suppose Ziege can raise additional funds beyond the $13 million, but each new increment (or partial increment) of $5 million of new capitalwill cause theWACC to increase by 1%.
Assuming that Ziege uses the same method of risk adjustment, which projects should it now accept and what would be the dollar size of its capital budget?AppendixLO1