Problem
Castro & Howard, Inc. is a large conglomerate thinking of entering the widget business, where it plans to finance projects with a debt-to-value ratio of 25% (or, alternatively, a debt-to-equity ratio of 1/3). There is currently one firm in the widget industry, Yip Enterprises. This firm is financed with 40 percent debt and 60 percent equity. The beta of Yip's equity is 1.5. While Castro & Howard Inc. expects to borrow for its widget business at 10%, Yip has a borrowing rate of 12%. The corporate tax rate for both firms is 40%. The market risk-premium is 8.5% and the riskless interest rate is 8%. What is the appropriate discount rate for Castro & Howard Inc. to use for its widget venture under the WACC and APV methods?