Suppose you have three indivisible assets, A, B and C with internal rates of return 2%, 5% and 10% respectively and initial costs of $1, $4, $5.
Suppose you have $8.0 at 1% and can borrow at 9%. What is the incremental cost of funds on asset B? The answer is supposed to be 3%, please show the work to get to this answer.
Well I figured it out before I got a response:
First apply the $8 dollars to asset C which has the greatest IRR of 10%. That leaves you with $3. 8-5=3. Since the assets are indivisible you must spend the $4 on asset B. You only have $3 left so you must borrow $1 from a loan at 9%. Thus 3 out of the 4 dollars are going to be at a rate 1% while 1 out of the 4 is at a rate of 9%. The equation is: (3/4)*0.01+(1/4)*0.09 = 0.03