Question

g A company is considering a project with an initial cost of $8.5 million. The project will produce cash inflows of $1.93 million per year for 6 years. The project has the same risk as the firm. The firm has a pretax cost of debt of 5.67% and a cost of equity of 11.31%. The debt-equity ratio is 0.62 and the tax rate is 40%. What is the net present value of the project

Answer 1

$345,941

Step-by-step explanation:

The computation of the net present value is given below:

But before that the WACC is

Weight of equity is

= 1 ÷ (1 + 0.62)

= 0.61728

And,

Weight of debt is

= 1 - 0.6173

= 0.38275

Now

WACC is

= 0.61728 × 0.1131 + 0.38275 × 0.0567 × ( 1 - 0.4)

= 0.069814 + 0.013021

= 0.082835 or 8.2835%

Now the net present value is

= All year cash flows × PVIFA factor at 8.2835% for 6 years - initial investment made

= $1,930,000 × 4.583389 - $8,500,000

= $345,941