Asked by Tanner Lloyd on May 20, 2024
Verified
A firm's WACC for capital budgeting purposes for a planning period is:
A) the height of the MCC schedule at the expected level of capital spending.
B) at the intersection of the MCC and the IOS.
C) always beyond the break point of the MCC.
D) usually less than the cost of debt.
MCC Schedule
Marginal cost of capital schedule. A plot of the WACC (weighted average cost of capital) against the total amount of capital to be raised in a planning period. The MCC rises as more capital is raised and the costs of individual components experience step function increases.
Capital Spending
Refers to funds spent by a business or government on acquiring or maintaining physical assets such as property, plants, and equipment.
MCC
Marginal Cost of Capital; the cost of obtaining an additional dollar of new capital.
- Gain insight into the role of market values in the maintenance or achievement of an organization's financial structure.
- Elucidate the considerations needed for calculating the Weighted Average Cost of Capital (WACC) in the context of new capital budgeting projects.
Verified Answer
NT
Nazrawit TesfayeMay 25, 2024
Final Answer :
B
Explanation :
The weighted average cost of capital (WACC) is the weighted average of the cost of each component of capital (debt, preferred stock, common equity) for a company. The WACC is used as the discount rate to evaluate potential capital projects. It is determined at the point where the marginal cost of capital (MCC) intersects with the investment opportunity schedule (IOS), which represents the expected return on prospective projects of comparable risk. Therefore, the correct choice is B because the WACC is determined at the intersection of the MCC and the IOS.
Learning Objectives
- Gain insight into the role of market values in the maintenance or achievement of an organization's financial structure.
- Elucidate the considerations needed for calculating the Weighted Average Cost of Capital (WACC) in the context of new capital budgeting projects.