What are reasonable cost of capitol for evaluating average risks projects, high risks projects, and low risk projects?
cost of capital= real cost of money + expected return + probability of failure
where probability of failure is the risk, expressed as a probability that the money will not be repaid. If the probaility of failure is 1 in twelve (eight and half percent), the real cost of money 4.5 percent, and one wants a 2 percent return, then
cost of capital= 4.5 + 2.0 + 8.5, so
cost of capital= 14.5 percent
capital = http://www.answers.com/topic/capital-1?cat=biz-fin (read definition #2)
capitol = http://www.answers.com/capitol (a building...)
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To evaluate the reasonable cost of capital for different types of projects with varying levels of risk, you would typically consider the real cost of money, expected return, and the probability of failure.
For average risk projects:
- Let's say the real cost of money is 4.5 percent.
- You want a 2 percent return on your investment.
- If the probability of failure (risk) is relatively low, let's assume 5 percent.
The cost of capital for average risk projects would be:
Cost of capital = 4.5 + 2.0 + 5.0 = 11.5 percent
For high-risk projects:
- Assuming the same real cost of money (4.5 percent) and desired return (2 percent), but with a higher risk probability of 15 percent.
The cost of capital for high-risk projects would be:
Cost of capital = 4.5 + 2.0 + 15.0 = 21.5 percent
For low-risk projects:
- Again, assuming the same real cost of money (4.5 percent) and desired return (2 percent), but with a lower risk probability of 2 percent.
The cost of capital for low-risk projects would be:
Cost of capital = 4.5 + 2.0 + 2.0 = 8.5 percent
Please note that these percentages are just examples and can vary depending on the specific circumstances of each project.
When evaluating the cost of capital for different types of projects, you need to take into account the risk associated with each project. The cost of capital is a combination of the real cost of money, the expected return, and the probability of failure.
To calculate the cost of capital for evaluating average risk projects, high-risk projects, and low-risk projects, you first need to determine the values for the real cost of money, expected return, and probability of failure for each type of project.
Let's say you have the following values:
Real cost of money: 4.5%
Expected return: 2.0%
Probability of failure for average risk projects: 8.5%
For an average risk project, you would calculate the cost of capital as follows:
Cost of capital for average risk project = real cost of money + expected return + probability of failure
= 4.5% + 2.0% + 8.5%
= 14.5%
Similarly, you can calculate the cost of capital for high-risk projects and low-risk projects by adjusting the value of the probability of failure accordingly.
Remember that these values are just examples, and the actual cost of capital for different types of projects may vary depending on the specific circumstances and industry. It's important to thoroughly analyze and assess the risks associated with each project to determine the appropriate cost of capital.