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Finance Questions

Each answer should be between 200-300 words.

1. What is the concept of marginal cost of capital?

2. Would you expect the cost of capital to be different for an e-business versus a "brick and mortar" business? Why?

3. How would you modify your capital budgeting decision analysis to account for periods of inflation?

Solution Preview

Your question has three parts, which wants you to comment on the marginal cost of capital, how the cost of capital would be different in an e-business when compared to the traditional business and how capital budgeting decisions account for period of inflation.
<br>The question makes some assumptions. First, the question assumes that there are standard differences between an e-business and a traditional business. This is not supported by evidence. There are several e-businesses whose investment decisions are very similar to traditional businesses. Second, the question assumes that capital budgeting decision analyses are modified in periods of inflation. This is not supported by evidence in several industries where the realized prices get adjusted because of inflation.
<br>Given below is a template to help you answer your question
<br>1. The concept of marginal cost of capital is related to the marginal rate of borrowing. The cost of capital at every point is not a function of the cost of capital but the rate at which the market will lend. Inherent in the DCF approaches is the cost of capital; similarly it is the rate at which the cost of additional cost of capital is used to calculate a NPV or a discounted payback. If the rate is too high, a business could reject opportunities and if it is too low, it could accept investments whose returns fail to meet the cost of the funds invested. The method of ascertaining the marginal cost is derived from published yield curves for ...