Which of the following statements is CORRECT? a. There is an \"opportunity cost\

Question

Which of the following statements is CORRECT? a. There is an "opportunity cost" associated with using reinvested earnings, hence they are not "free." b. The WACC as used in capital budgeting would be simply the after-tax cost of debt if the firm plans to use only debt to finance its capital budget during the coming year. c. The WACC as used in capital budgeting is an estimate of a company's before-tax cost of capital. d. The percentage flotation cost associated with issuing new common equity is typically smaller than the flotation cost for new debt. e. The WACC as used in capital budgeting is an estimate of the cost of all the capital a company has raised to acquire its assets.

I understand that A is the answer, but can you please explain why that is correct and why the other answers are not? Thank you!

Explanation / Answer

Reasons for incorrectness

b) Firm should be seen as ongoing entity, & using only debt for a given project would change capital structure, & hence this factor must be recognized through basing cost of capital for projects on target capital structure.

c) The WACC as used in capital budgeting is an estimate of a company's after-tax cost of capital

d) The percentage flotation cost associated with issuing new common equity is typically greater than the flotation cost for new debt.

e) WACC is the cost of raising new or additional capital

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