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a. An analyst evaluating the North facilty expects that the project will be financed by debt that costs the firm 4.9%. What recommendation do you think this analyst make regarding the investment opportunity? b. Another analyst assigned to study the South facility believes that funding for that project will come from the firm's retained earnings at a cost of 16.2%. What recommendation do you expect this analyst to make regarding the investment? c. Explain why the decisions in parts a and b may not be in the best interest of the firm's investors.

a. An analyst evaluating the North facilty expects that the project will be financed by debt that costs the firm 4.9%. What recommendation do you think this analyst make regarding the investment opportunity? b. Another analyst assigned to study the South facility believes that funding for that project will come from the firm's retained earnings at a cost of 16.2%. What recommendation do you expect this analyst to make regarding the investment? c. Explain why the decisions in parts a and b may not be in the best interest of the firm's investors.

Essentials Of Investments
Essentials Of Investments
11th Edition
ISBN:9781260013924
Author:Bodie, Zvi, Kane, Alex, MARCUS, Alan J.
Publisher:Bodie, Zvi, Kane, Alex, MARCUS, Alan J.
Chapter1: Investments: Background And Issues
Section: Chapter Questions
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Concept of cost of capital Mace Manufacturing is in the process of analyzing its investment decision-making procedures. Two projects evaluated by the firm recently involved building new facities in diffrent regions, North and South. The basic variables surrounding each project analysis and the resulting decision actions are summarized in the follwing table: Basic variables North South $5,000,000 19 years $4,550,000 19 years Cost Life Expected return Least-cost financing Source 8.3% 14.6% Debt Equity Cost (after-tax) 4.9% 16.2% Decision Action Invest Don't invest Reason 8.3% > 4.9% cost 14.6% < 16.2% cost a. An analyst evaluating the North facilty expects that the project will be financed by debt that costs the firm 4.9%. What recommendation do you think this analyst wil make regarding the investment opportunity? b. Another analyst assigned to study the South facity beleves that funding for that project will come from the firm's retained earnings at a cost of 16 recommendation do you expect this analyst to make regarding the investment? c. Explain why the decisions in parts a and b may not be in the best interest of the firm's investors. d. If the firm maintains a capital structure containing 40% debt and 60% equity, find its weighted average cost using the data in the table. e. If both analysts had used the weighted average cost calculated in part d, what recommendations would they have made regarding the North and South facilities? f. Compare and contrast the analysts' initial recommendations with your findings in part e. Which decision method seems more appropriate? Explain why. 16.2%. What
Transcribed Image Text:Concept of cost of capital Mace Manufacturing is in the process of analyzing its investment decision-making procedures. Two projects evaluated by the firm recently involved building new facities in diffrent regions, North and South. The basic variables surrounding each project analysis and the resulting decision actions are summarized in the follwing table: Basic variables North South $5,000,000 19 years $4,550,000 19 years Cost Life Expected return Least-cost financing Source 8.3% 14.6% Debt Equity Cost (after-tax) 4.9% 16.2% Decision Action Invest Don't invest Reason 8.3% > 4.9% cost 14.6% < 16.2% cost a. An analyst evaluating the North facilty expects that the project will be financed by debt that costs the firm 4.9%. What recommendation do you think this analyst wil make regarding the investment opportunity? b. Another analyst assigned to study the South facity beleves that funding for that project will come from the firm's retained earnings at a cost of 16 recommendation do you expect this analyst to make regarding the investment? c. Explain why the decisions in parts a and b may not be in the best interest of the firm's investors. d. If the firm maintains a capital structure containing 40% debt and 60% equity, find its weighted average cost using the data in the table. e. If both analysts had used the weighted average cost calculated in part d, what recommendations would they have made regarding the North and South facilities? f. Compare and contrast the analysts' initial recommendations with your findings in part e. Which decision method seems more appropriate? Explain why. 16.2%. What
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