A small video chain is deciding whether to engage in a new line of delivery business, which implies setting up a page where customers could choose movies based on available in-store inventory and pick a time for delivery. The purpose of this analysis is to obtain an estimate of the net present value of this project, which requires an upfront investment of $800,000. Half of this amount will come from a debt of $750,000 (held in perpetuity). Currently, the firm is unlevered. Assume that the cost of debt is 6.8%, the corporate tax is 40% and the return required by equity investors in the all-equity firm is 15.8%. the firm is planning to run the new line of delivery only for the next 5 years. The following financial information is available regarding the expected cash flows of the new line of delivery (in $ thousands):

Projected Projected Projected Projected Projected

(t=1) (t=2) (t=3) (t=4) (t=5)

del(NWC) 0 0 0 0 0

Capital expenditures 300 300 300 300 300

Depreciation 200 225 250 275 300

Revenue costs 180 360 585 840 1,125

Questions:

1. Calculate the unlevered present value

2. Calculate the present value of the expected interest tax shields

3. Calculate the APV.

4. Why is APV a preferable method to WACC in this situation? How do their assumptions differ?