Question
A project generates unlevered (after-tax) cash flows of $16 million every year for 3 years. The investment is $36 million. The firm has a target
A project generates unlevered (after-tax) cash flows of $16 million every year for 3 years. The investment is $36 million. The firm has a target debt ratio (D/V) of 45%. Preferred stock will be used for 15% of the investment amount and retained earnings will be used for the rest. The firms current bonds have 3 years left to maturity, a coupon rate of 8.5% with annual coupons, a face value of $1000. The price is listed at $106. The before-tax cost on any new bonds will be the same as the yield to maturity on the current bonds. Preferred stock has a dividend of $3.20 with a price of $38. Issue costs on preferred stock are $1.20 per share. To estimate the cost of retained earnings, the firm expects to pay a dividend of $3.60 per share next period. The growth rate is 8.5%. The current stock price is $60. The tax rate is 25%. Use the weighted average cost of capital (WACC) to find the net present value (NPV) of the project. For the WACC, carry work out to 4 decimal points. Should the project be accepted or not?
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