Final answer:
The net present value of the cave exploration tours project is calculated using the weighted average cost of capital method, considering the company's mix of debt and equity, cost of equity and debt, and tax rate. The WACC is found to be 10.394%, and future cash flows are discounted at this rate. The NPV is positive at $36,575.37, suggesting the project is a good investment.
Step-by-step explanation:
To calculate the net present value (NPV) of the project using the weighted average cost of capital (WACC) method, we first need to compute the WACC. Waterdeep Adventure Travel has an unlevered cost of equity of 14.5% and a cost of debt of 7.7%, with a tax rate of 45% and maintains a capital structure of 40% debt and 60% equity. The WACC is calculated using the following formula:
WACC = E/V × Re + D/V × Rd × (1-Tc)
where E = market value of the firm's equity, D = market value of the firm's debt, V = E + D, Re = cost of equity, Rd = cost of debt, and Tc = corporate tax rate.
For Waterdeep Adventure Travel:
WACC = 0.6 × 14.5% + 0.4 × 7.7% × (1 - 0.45)
WACC = 8.7% + 1.694% = 10.394%
Now we discount the future cash flows from the investment at the WACC to determine their present values:
PV Year 1 = $29,566 / (1 + WACC)^1
PV Year 2 = $87,613 / (1 + WACC)^2
The NPV of the project is computed by subtracting the initial investment and adding the present values of the cash inflows:
NPV = - Initial Investment + PV Year 1 + PV Year 2
NPV = - $62,230 + $29,566 / 1.10394 + $87,613 / (1.10394)²
NPV = - $62,230 + $26,781.06 + $72,024.31
NPV = $36,575.37
Since the NPV is positive, the project is financially viable and should be considered for investment.