Bubba Inc is looking to find its weighted average cost of capital to use in evaluating upcoming investments. The target debt to equity ratio for the company is 50%, with a tax rate of only 40%.

Bonds that are trading in the market place which have similar risk to Bubba Inc. are yielding 8%.

Bubba Inc. also has a beta of .90 and many analysts are forecasting a market risk premium to be 7%. Government T-bills are currently yielding 8%.

Furthermore, Bubba Inc. just issued a dividend of $1.80 per share and the CFO provided guidance to the markets that this dividend was expected to grow at 7% indefinitely. The stock price is currently trading at $25 per share.

What is the Weighted Average Cost of Capital?

Question 5 (20 marks)

Billy Joe RopeADope Inc. is looking at investing in one of two new product launches. These projects involve expanding production in order to launch new products. The table below are the forecasted cashflows for each of these initiatives.

Year

Product A

Product B

0

-27,000

-72,000

1

16,000

30,000

2

16,000

30,000

3

3,000

15,000

4

3,000

200,000

5

1,000

5,000

Using a 22% discount rate, calculate the NPV, IRR and Payback for each of these initiatives. Which one would you recommend? Your boss is very concerned about short term liquidity and wants you to focus your recommendation on the Payback method. Would this change your recommendation?