Question
MinMus Corp. is in the aluminum extrusion business. The company is considering some new equipment. The equipment has a 3-year tax life and will be
MinMus Corp. is in the aluminum extrusion business. The company is considering some new equipment. The equipment has a 3-year tax life and will be fully depreciated by the double-declining method over 3 years, but it would have a positive pre-tax salvage value at the end of Year 3, when the project would be closed down. Also, some new working capital would be required, but it would be recovered at the end of the projects life. Revenues and other operating costs are expected to be constant over the projects 3-year life.
Net investment in fixed assets 1.050.000
Required net working capital 150.000
Sales revenues, each year 1.250.000
Operating costs, excluding depreciation, each year 450.000
Expected pre-tax salvage value 75.000
MinMus Corp. currently has a target debt-equity ratio of 1/3. The company is not big enough to be able to secure debt financing through public markets, but it can secure a long-term credit line through its bank at an interest rate of 15%. The companys beta is estimated to be 1,2 and the risk-free rate is 10% while the market risk premium is estimated at 7%. The company has a tax rate of 22%.
- What is MinMus Corp.s weighted average cost of capital?
- Prepare the depreciation table for the new equipment.
- What is the Year 0 cash flow?
- What are the operating cash flows in years 1 through 3?
- How much are the taxes on the sale of the new equipment in three years?
- How much value for the company will be created or destroyed if the new machine is purchased? Should the new machine be purchased?
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