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and discussion for questions 1) and 2) Current long-term and target debt-equity ratio (D:E) Corporate tax rate (Tc) 30% Expected Inflation 1.65% 1:3 Equity beta
and discussion for questions 1) and 2) Current long-term and target debt-equity ratio (D:E) Corporate tax rate (Tc) 30% Expected Inflation 1.65% 1:3 Equity beta (BE1.6485 Debt beta (o) 0.2155 Expected market premium (rw-r)-6.00% Risk-free rate (r)-3.15% 1 The CEO of CMR Co., for which you are CFO, has requested that you evaluatea potential investment in a new project. The proposed project requires an initial outlay of 6.15 billion. Once completed (1 year from initial outlay) it will provide a real net cash flow of $475 million in perpetuity following its completion. It has the same business risk as CMR Co.'s existing activities and will be funded using the firm's current target D: 2) Assume now a firm that is an existing customer of CMR Co. is considering a buyout of CMR Co. to allow them to integrate production activities. The potential acquiring firm's management has approached an investment bank for advice. The bank believes that the firm can gear CMR Co.to a higher level, given that its existing management has been highly conservative in its use of debt. It also notes that the customer's firm has the same cost of debt as that of CMR Co. Thus, it has suggested use of a target debt-equity ratio of 2:3 when undertaking valuation calculations. a) What would the required rate of return for BFS Co.'s equity become if the proposed gearing structure were adopted following acquisition by the customer? (2 marks) b) Would the above project described in 1) be viable for the new owner of BFS Co.? Justify your answer (numerically)
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