Problem:
A company has an equal number of low-risk projects, average-risk projects, and high-risk projects. The company estimates that the overall company's WACC is 12%. This is also the correct cost of capital for the company's average-risk projects. The company's CFO argues that, even though the company's projects have different risks, the cost of capital for each project should be the same because the company obtains its capital from the same source. If the company follows the CFO's advice, what is likely to happen over time?
I think the answer is a, why am I right or wrong?
a. The company will take on too many low risks projects and reject to many high risk projects
b. The company will take on too many high risk projects and reject too many low risk projects.
c. Things will generally even out over time and therefore, the risk of the firm should remain constant.
d. There will be no erect whatsoever- the same projects will be accepted.