QUESTION TWO

a.Vasivenyu Engineeringcurrently has a target debt-equity ratio of 4:5.It is evaluating a proposal to expand capacity which is expected to cost $4,5 million and generate after-tax cash flows of $1 million per year for the next 10 years.The tax rate for the company is 25%.Two financing options are being looked at:

Issue of equity stock..The required return on the company's new equity is 18%,The issuance cost will be 10%.

Issue of debentures carrying a yield of 12%.The issuance cost will be 2%.

Required Computethe NPV of the expansion project. (10 marks)

b.Highlight and briefly explain any five factors which may affect the weighted average cost of capital (WACC) of a firm.(10 marks)

c.Briefly describe any five misconceptions surrounding the cost of capital.

( 5 marks)