Speedy Delivery Systems can buy a piece of equipment that is anticipated to prov

Question

Speedy Delivery Systems can buy a piece of equipment that is anticipated to provide a return of 12 percent and can be financed at 8 percent with debt. Later in the year, the firm turns down an opportunity to buy a new machine that would yield a return of 20 percent but would cost 22 percent to finance through common equity. Assume debt and common equity each represent 50 percent of the firm’s capital structure.

Compute the weighted average cost of capital. (Do not round intermediate calculations. Input your answer as a percent rounded to 2 decimal places.)

Speedy Delivery Systems can buy a piece of equipment that is anticipated to provide a return of 12 percent and can be financed at 8 percent with debt. Later in the year, the firm turns down an opportunity to buy a new machine that would yield a return of 20 percent but would cost 22 percent to finance through common equity. Assume debt and common equity each represent 50 percent of the firm’s capital structure.

Explanation / Answer

Answer-a Speedy Delivery Systems Cost Weights Weighted costs Debt 8% 50% 4.00% Common equity 22% 50% 11.00% Weighted average cost of capital 15.00% Answer-b Only the new machine with a return of 20%. This return is higher than the weighted average cost of capital of 15%.

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