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You're a consultanat hired by a small company that installs GPS unts in semi trucks and school busses. The company is considering investing in a project to manufactor the units themselves instead of purchasing the new units.
They've used their average weighted cost of capital of 15 percentto determine that the project has a positive NPV of $3000. The CFO and COO don't agree.
The CEO doesn't believe that the WACC is the correct number because the project is risky: it's a brand new venture. The CFO argues that the WACC already incorporates risks and the cost of new funds at the source (debt and equity financing) is the only thing that matters.
A: Who is correct? Why?
B: What are two different approaches to determine an appropriate cost of capital that appropriately accounts for the differet risks? Walk through the steps on how you would proceed. (keep in mind there's more than one correct answer.)
Then identify an advantage and isadvantage of each of these approaches. Lastly, How would you determine if this project should be accepted or rejected? (No actual computations are needed.)
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In the given assignment, we were required to answer the two questions asked with respect to the weighted average cost of capital. It's methods and calculation and different ways to calculate WACC were provided.
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