Question

What would happen if we use the WACC for all projects regardless of risk? Assume the WACC = 15% Project Required Return IRR A 20% 17% B 15% 18% C 10% 12%

which project would be accepted if they used the WACC for the discount rate ? explain why .

which project would be accepted if you use the required return based on the risk of the project ? explain why

Answer 1

Q. What would happen if we use the WACC for all projects regardless of risk?

Ans. If we use the WACC for all projects, we might end up favoring risky projects. We could also potentially reject +NPV less risky project. Thus will lead to poor decision making. We must adjust the WACC to accomodate for risk of a project.

Q. Assume the WACC = 15%

Project Required Return IRR

A 20% 17%

B 15% 18%

C 10% 12%

which project would be accepted if they used the WACC for the discount rate ? explain why .

Ans. Considering WACC of 15%, acceptable projects would be - Project A & B, since these have IRR>WACC.

Q. which project would be accepted if you use the required return based on the risk of the project ? explain why

Ans. Considering required rate of return given:

Project Required Return IRR

A 20% 17%

B 15% 18%

C 10% 12%

Reject A (since IRR < Required return)

Accept B & C (since IRR > Required return)