Final answer:
The most the company would be willing to spend today on the project is the Net Present Value (NPV) of the project's aftertax cash flows. To find this, calculate the Weighted Average Cost of Capital (WACC) using the Equity Multiplier, shareholders' return requirements, cost of debt, and tax rate, and discount the project's cash flows at the WACC.
Step-by-step explanation:
To calculate the most the company would be willing to spend today on the project, we need to find the Net Present Value (NPV) of the after-tax cash flows generated by the project, using the company's overall cost of capital as the discount rate. First, we find the Weighted Average Cost of Capital (WACC) using the given equity multiplier and the costs of equity and debt:
- Equity Multiplier = Total Assets / Total Equity
- Equity Proportion = 1 / Equity Multiplier
- Debt Proportion = 1 - Equity Proportion
- After-tax Cost of Debt = Pre-tax Cost of Debt * (1 - Tax Rate)
- WACC = Equity Proportion * Cost of Equity + Debt Proportion * After-tax Cost of Debt
Given an equity multiplier of 1.53, a cost of equity of 11.19%, a pre-tax cost of debt of 4.91%, and a tax rate of 40%, we calculate WACC. With the WACC, we then discount the project's after-tax cash flows to determine their present value. The sum of these present values is the maximum price that Gubler's Gym would be willing to pay for the project to earn at least the cost of capital on it. Among the given options, the correct answer is the one that is closest to the NPV calculated.