If an analyst wants to value a potential investment in the net operating assets of a division of another firm,the analyst should discount the projected free cash flows at the:
A) cost of debt capital.
B) cost of equity capital.
C) weighted average cost of capital.
D) risk-free rate.

Question

Quizplus · Accepted Answer

The weighted average cost of capital (WACC) takes into account the cost of both debt and equity financing, and therefore represents the required rate of return that the company's investors and creditors demand for the net operating assets of the division. Discounting the projected free cash flows at the WACC allows for a comprehensive approach to valuing the investment opportunity. Using only the cost of debt or equity would not provide a complete picture and using the risk-free rate does not consider the risk associated with the investment.

If an Analyst Wants to Value a Potential Investment in the Net