The CFO of Mega Munchies recently received a report that contained the following

Question

The CFO of Mega Munchies recently received a report that contained the following information:

Project           Cost            IRR                                  

E                  $200,000       19%                              

F                  $300,000       17%

G                  $200,000       14%

Capital Structure

Type of Capital              Proportion

Debt                                   40%

Preferred Stock                   0

Common Equity                  60%

The weighted average cost of capital (WACC) is 12% if the firm does not have to issue new common equity; if new common equity is needed, the WACC is 15%. If Mega Munchies expects to generate $240,000 in retained earnings this year, which project(s) should be purchased? Why? Assume the projects are independent.

Explanation / Answer

pROJECT E should be purchased because it has less cost with higher IRR i.e., 19%...

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