A company's cost of capital is equal to a weighted average of its investors' required returns.

Answer

a.

True

b.

False

Jones Company has a target capital structure of 40% debt, 10% preferred stock, and 50% common equity. The company's after-tax cost of debt is 8%, its cost of preferred stock is 10%, its cost of retained earnings is 14%, and its cost of new common stock is 16%. The company stock has a beta of 1.2 and the company's marginal tax rate is 35%. What is the company's weighted average cost of capital if retained earnings are used to fund the common equity portion?

Answer

a.

11.20%

b.

6.72%

c.

16.80%

d.

8.00%

The payback period may be more appropriate to use for companies experiencing capital rationing.

Answer

a.

True

b.

False

If project A generates $10 million of free cash flow over its five year useful life and project B generates $8 million of free cash flow over its useful life, then Project A will have a shorter payback period than Project B, assuming both projects require the same initial investment.

Answer

a.

True

b.

False