Question
For Project 1, the detailed cashflows for all the years are shown below. Project 1 CashFlows In Millions Y0 Y1 Y2 Y3 Y4 Y5 Y6
For Project 1, the detailed cashflows for all the years are shown below.
Project 1 CashFlows In Millions Y0 Y1 Y2 Y3 Y4 Y5 Y6 Investment -21 Salvage Value 4 Revenue 5 10 14 16 12 8 Fixed Cost -1 -1 -1 -1 -1 -1
Variable Cost -1.5 -3 -4.2 -4.8 -3.6 -2.4
Total Cash Flow -21 2.5 6 8.8 10.2 7.4 8.6
To determine the Y0 investment or NPV of the project, we need to discount these cashflows from Y1 to Y6 to Y0. For which we need the discount rate, which is the WACC.
Calculation of WACC WACC = wdrd(1-t) + were + wprp To get all these values, lets go to top of the question, where the balance sheet information is given. To calculate the weights, we need to consider the market value of the instruments.
Total Long Term debt = 60M
Total Common Equity = 10M * 14 = 140M
Total Preferred Stock = .1M* 90 = 9M Total = 209M wd = 60/209 = 0.287 we = 140/209 = 0.67 wp = 9/209 = 0.043
Using Constant growth model, re = 0.8 * (1 + 0.1)/90 + 0.1 = 10.98% Using CAPM, cost of equity = 6 + 1.22*(14-6) = 15.78%, As the stockholders require a 5% premium over the return on firms's bonds, Interest on debt = 15.78 - 5 = 10.78% WACC = 0.287*10.78*0.6 + 0.67*10.98 + 0.043*9 = 9.6%
Adding 2% for risky projects, discount rate = 9.6 + 2 = 11.6% NPV Calcultion Applying this discount rate to the yearly cahsflows in an excel sheet or financial calculator, NPV can be calculated. NPV = 7.69M
Hence the Y0 value of the project is 7.69M
Compute the non-operating (end-of-project) cash flows at the end of year 6. andd raw a timeline that summarizes all of the cash flows for your venture.
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