In financial analysis, it is important to select an appropriate discount rate. A project's discount rate must be high to compensate investors for the project's risk. The return that shareholders require from the company as a compensation for their investment risk is referred to as the cost of equity. Consider this case:

Sunny Co. is a 100% equity-financed company (no debt or preferred stock); hence, its WACC equals its cost of common equity. Sunny Co.'s retained earnings will be sufficient to fund its capital budget in the foreseeable future. The company has a beta of 1.80, the risk-free rate is 6.0%, and the market return is 7.8%.

What is Sunny Co.'s cost of equity?

9.24% 33.88% 14.12% 3.32%

Sunny Co. is financed exclusively using equity funding and has a cost of equity of 11.85%. It is considering the following projects for investment next year: Project Required Investment Expected Rate of Return W $8,750 10.10% X $4,375 13.65% Y $2,150 14.60% Z $9,950 14.10%

Each project has average risk, and Sunny Co. accepts any project whose expected rate of return exceeds its cost of capital. How large should next year's capital budget be?

$25,225 $16,475 $15,275 $20,850