Question

When an analyst arrives at a cost of capital for an upcoming project and that cost of capital is based on the cost of capital for another firm which operates similarly to your project, the analyst is using the _____ approach.

Select one:

a. subjective risk

b. pure play

c. divisional cost of capital

d. capital adjustment

e. security market line

A firm's cost of capital:

Select one:

a. will decrease as the risk level of the firm increases.

b. for a specific project is primarily dependent upon the source of the funds used for the project.

c. is independent of the firm's capital structure.

d. should be applied as the discount rate for any project considered by the firm.

e. depends upon how the funds raised are going to be spent.

Answer 1

1.

Correct option is > b. pure play

Pure play is selection of cost of capital based on competitor who deals in similar line of business or has taken up similar project. Firms can use publicly avaible information to calculate the cost of debt and equity of the similar to derive the cost for their own projects.

.

2.

Correct option is e. depends upon how the funds raised are going to be spent.

Firms cost of capital is dependent on raising of funds at particular cost and then spending of such funds on the projects.