The management of Iron Limited, an all-equity financed company, is considering the following projects:Project Beta of Project IRRBlue 0.6 8.5%Red 1.1 11.0%Assume that the market risk premium is 8% and it is 5% above the risk-free rate. The CEO of Iron Limited made the following comments: ‘If we have sufficient funds, I will invest in both projects because the IRRs of both projects are higher than the market risk premium of 8%. However, if only one project can be chosen, we should select Project Red because IRR is higher when compared to Project Blue.’Judge the validity of the CEO’s comments. You are required to show relevant computations.
The management of Iron Limited, an all-equity financed company, is considering the following projects:Project Beta of Project IRRBlue 0.6 8.5%Red 1.1 11.0%Assume that the market risk premium is 8% and it is 5% above the risk-free rate. The CEO of Iron Limited made the following comments: ‘If we have sufficient funds, I will invest in both projects because the IRRs of both projects are higher than the market risk premium of 8%. However, if only one project can be chosen, we should select Project Red because IRR is higher when compared to Project Blue.’Judge the validity of the CEO’s comments. You are required to show relevant computations.
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
Problem 1PS
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The management of Iron Limited, an all-equity financed company, is considering the
following projects:
Project Beta of Project IRR
Blue 0.6 8.5%
Red 1.1 11.0%
Assume that the market risk premium is 8% and it is 5% above the risk-free rate. The
CEO of Iron Limited made the following comments:
‘If we have sufficient funds, I will invest in both projects because the IRRs of both
projects are higher than the market risk premium of 8%. However, if only one project
can be chosen, we should select Project Red because IRR is higher when compared to
Project Blue.’
Judge the validity of the CEO’s comments. You are required to show relevant
computations.
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