Big Star Corp. is planning to start a new project. Next year, the project can generate profits of either $220,000, $100,000, or $40,000, with all three scenarios equally likely. The project requires an initial investment of $80,000. The companys beta is 1.2, its cost of capital is 10%, and the risk- free rate is 4%.

1. What is the Net Present Value (NPV) of the project? [5 marks]

2. Suppose that the project is sold to investors as an all-equity firm to raise funds for the initial investment. The cash flows of the project will be distributed to equity holders in one year. How much money can be raised in this way that is, what is the initial market value of the unlevered equity? [10 marks]

3. Suppose the initial $80,000 is raised by borrowing at the risk-free interest rate instead of issuing equity. What are the cash flows of the levered equity, and what is its initial value according to Modigliani and Millers Propositions? Is the companys cost of equity the same as before? Explain your reasoning. [25 marks]