Question
A project is expected to produce a cash flow of 2,250,000 in one year, and the cash flows are expected to grow at 2% rate
A project is expected to produce a cash flow of 2,250,000 in one year, and the cash flows are expected to grow at 2% rate per year perpetually. To finance the project, the firm issues a debt of $10 million and sells another $10 million worth of equity. Debt is issued with associated flotation costs of $20,000, while the equity has flotation cost of $40,000. The Debt has 10% interest and 5 years to maturity, with principal repaid in a lump sum at the end of the fifth year. The equity has a required return of 12%. Both flotation costs can be amoritized over a 5 year period.
you may (or may not) need this formula to obtain your discount rate for some of you analysis.
Return on Equity = Unlevered Cost of Capital + (Value of Debt/Market Value of Equity)(1-Tax Rate)(Unlevered Cost of Capital - Cost of Debt)
In the above, the unlevered cost of capital is 10%
1. If the firm's tax rate is 20%, calculate the project's APV
2. Discuss whether you would expect WACC method to give you a different answer and if yes, then why
Step by Step Solution
There are 3 Steps involved in it
Step: 1
Get Instant Access to Expert-Tailored Solutions
See step-by-step solutions with expert insights and AI powered tools for academic success
Step: 2
Step: 3
Ace Your Homework with AI
Get the answers you need in no time with our AI-driven, step-by-step assistance
Get Started