In financial analysis, it is important to select an appropriate discount rate. A project's discount rate must be high to compensate investors for the project's risk. The return that shareholders require from the company as a compensation for their investment risk is referred to as the cost of equity.

Consider this case:

The Shoe Building Inc. is a $100\%$ equity$-$financed company $($no debt or preferred stock$)$; hence, its WACC equals its cost of common equity. The Shoe Building Inc.$\text{'}$s retained earnings will be sufficient to fund its capital budget in the foreseeable future. The company has a beta of $1\mathrm{.}50,$ the risk$-$free rate is $5\mathrm{.}0\%,$ and the market return is $6\mathrm{.}5\%.$

The Shoe Building Inc. is financed exclusively using equity funding and has a cost of equity of $11\mathrm{.}85\%.$ It is considering the following projects for investment next year:

Project

w

X

Y

z

Required Investment

$$8,750$

$$4,375$

$$2,150$

$$9,950$

Expected Rate of Return

$10\mathrm{.}10\%$

$13\mathrm{.}65\%$

$14\mathrm{.}60\%$

$14\mathrm{.}10\%$

Each project has average risk, and The Shoe Building Inc. accepts any project whose expected rate of return exceeds its cost of capital. How large should next year's capital budget be$?$ $$15,275$$$16,475$$$20,850$$$25,225$