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A project has an expected free cash flow of $100 million a year from now (no other cash flows afterwards). We have identified a comparison

A project has an expected free cash flow of $100 million a year from now (no other cash flows afterwards). We have identified a comparison firm with similar investments. The equity beta of the comparison firm is 1.4, and it has a D/E ratio 1. We plan to have a D/E ratio of 0.75 for the project. The risk-free rate is 5%, and the market risk premium is 10%. The tax rate is 30%. a) (12 points)Use the WACC method to calculate the value of the project. Assume that both the comparison firm and out firm have risk-free debt and risk-free tax shields.

b) (13 points)Now suppose the comparison firm has risk-free debt, but the projects debt is risky. Specifically, the beta of our bonds is 0.2, and the yield-to-maturity of the bond is 8%. The tax shields will be utilized fully 90% of the time. Assume that the debt and the tax shields are equally risky. Calculate the WACC in this scenario and find the value of the project.

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