MedChem has a capital structure of 40% equity and 60% debt and a current beta of 1.1. MedChem is considering an investment project in a new line of business that has an expected internal rate of return of 16%. The typical firm already in the line of business that MedChem is considering expanding into has a beta of 1.5 and a capital structure that has 55% debt and 45% equity. The marginal tax rate for all these firms, including MedChem, is 40%. If the current risk-free rate is 7% and the expected market risk premium is 8%, should MedChem expand into the new line? Assume that MedChem will retain its current capital structure.

do not expand

expand if after-tax cost of debt is 15% or less

expand if after-tax cost of debt is 10.4% or less

expand if after-tax cost of debt is 16% or less