An evaluation of four independent capital budgeting projects by the director of capital budgeting for Ziker Golf Company yielded the following results: The firm's weighted average cost of capital is 12 percent.Ziker Golf generally evaluates projects that are riskier than average by adjusting its required rate of return by 4 percent,whereas projects with less-than-average risk are evaluated by adjusting the required rate of return by 2 percent.Which project(s)should the firm purchase?
A) Project L
B) Projects L and E
C) Projects L and M
D) Projects L, E, and M
E) None of the above is a correct answer.

Question

An evaluation of four independent capital budgeting projects by the director of capital budgeting for Ziker Golf Company yielded the following results:  The firm's weighted average cost of capital is 12 percent.Ziker Golf generally evaluates projects that are riskier than average by adjusting its required rate of return by 4 percent,whereas projects with less-than-average risk are evaluated by adjusting the required rate of return by 2 percent.Which project(s)should the firm purchase?
A) Project L 
B) Projects L and E 
C) Projects L and M 
D) Projects L, E, and M 
E) None of the above is a correct answer.

Quizplus · Accepted Answer

To determine which project(s) should be purchased, we need to compare the adjusted required rates of return with the internal rate of return (IRR) of each project. 
Project L: Adjusted required rate of return = 12% + 4% = 16%
IRR = 16.5%
Project M: Adjusted required rate of return = 12% + 2% = 14%
IRR = 15%
Project N: Adjusted required rate of return = 12% + 2% = 14%
IRR = 13%
Project E: Adjusted required rate of return = 12% + 4% = 16%
IRR = 11%
Based on the comparison of the adjusted required rates of return and IRRs, Project C should be selected as it has the highest IRR of 16.5% which is greater than the adjusted required rate of return of 16%. Therefore, the answer is option C, Projects L and M.

An Evaluation of Four Independent Capital Budgeting Projects by the Director