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Best Tobacco is reexamining the costs of capital it uses to decide on investments in...

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Finance

Best Tobacco is reexamining the costs of capital it uses to decide on investments in its two primary businessesfood and tobacco. The two divisions have about the same market value. Best Tobacco has an equity beta of 0.95 and a debt/equity ratio of 25%. The companys debt is priced to yield an expected return of 8%. The average equity beta of publicly traded firms in the tobacco business is 1.2, the average debt beta is 0.3, and the average debt/equity ratio of such firms is 20%. The average equity beta of publicly traded firms in the food business is 0.9, the average debt beta is close to zero, and the debt/equity ratio of such firms is 80%. The current interest rate is 7.1%. Estimate the cost of capital for each of the two businesses.

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