MedChem Has a Capital Structure of 60% Equity and 40

question 48

Multiple Choice

MedChem has a capital structure of 60% equity and 40% debt and a current beta of 1.2. MedChem is considering an investment project in a new line of business that has an expected internal rate of return of 16%. The typical firm already in the line of business that MedChem is considering expanding into has a beta of 1.5 and a capital structure that has 55% debt and 45% equity. The marginal tax rate for all these firms, including MedChem, is 40%. If the current risk-free rate is 7% and the expected market risk premium is 8%, should MedChem expand into the new line? Assume that MedChem will retain its current capital structure.

• A) expand if after-tax cost of debt is 11.5% or less
• B) expand if after-tax cost of debt is 15% or less
• C) expand if after-tax cost of debt is 10.4% or less
• D) do not expand

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Definitions:

Team Interdependencies

The extent to which team members rely on each other to complete tasks and achieve common goals.

Newcomer Empowerment

The process of giving new members of an organization or community the authority or power to make decisions and contribute effectively.

Transformational Leadership

A style of leadership where the leader works with teams to identify needed change, creating a vision to guide the change through inspiration, and executing the change in tandem with committed members of the group.

Diverse Emotions

Refers to the variety of feelings and emotional states that individuals can experience in different contexts, contributing to the complexity of human behavior and interactions.