Multidivisional companies with diverse operations should use an interest rate for discounting a specific division's estimated cash flows in capital budgeting that is representative of:
A)the entire firm's cost of capital.
B)the riskiness of the specific division's cash flows.
C)the cost of capital obtained through the application of the pure play method.
D)Either b or c

Question

Quizplus · Accepted Answer

A multidivisional company with diverse operations should use an interest rate for discounting a specific division's estimated cash flows in capital budgeting that is representative of the riskiness of the specific division's cash flows. The cost of capital obtained through the application of the pure play method can also be used as it is specifically calculated for a similar activity or project. Using the entire firm's cost of capital would not be appropriate as it would not reflect the risk associated with the specific division's cash flows. Therefore, the best choice in this scenario is either b or c.

Multidivisional Companies with Diverse Operations Should Use an Interest Rate