Question

Duval Inc. uses only equity capital, and it has two equally-sized divisions. Division A's cost of capital is 10.0%, Division B's cost is 14.0%, and the corporate (composite) WACC is 12.0%. All of Division A's projects are equally risky, as are all of Division B's projects. However, the projects of Division A are less risky than those of Division B. Which of the following projects should the firm accept?

		A Division B project with a 13% return.
		A Division B project with a 12% return.
		A Division A project with an 11% return.
		A Division A project with a 9% return.
		A Division B project with an 11% return.

Answer 1

Hi,

Division A's is less risky than Division B. So Division A should be better choice than Division B.

Here, in 3rd option, Division A return is 11% which is higher than its cost of 10%, while in option D, Division A return is 9% which is lower than its cost.

Hence 3rd option is correct: "Division A project with an 11% return."

Thanks.