SGH Inc. has sold skis and snowboards in North America for several decades. Similar companies have an average debt-to-equity ratio of D/E_Industry = 2/3, average equity beta of _E^Industry = 1.057, and an average beta of debt of _D^Industry = 0.15 (Assume that these comparable companies have maintained a constant debt-equity ratio.) SGH Inc. and its comparables are subject to a 45% marginal corporate tax rate. SGH Inc. is planning a new project and the expansion is expected to generate the following free cash flows: SGH Inc.'s policy is to closely follow a target debt-to-equity ratio of D/E_SGH = 0.5 and its beta of debt is _D^SGH = 0.1. In order to help SGH Inc. maintain its intended target leverage, all new projects are expected to be financed with a constant ratio of debt-to-equity of D/E = 0.5 as well. The risk-free rate is r_f = 2.5% and the expected risk premium on the market is E[R_M] r_f = 5%.

Estimate the discount rate (cost of capital) that you would use in evaluating this project.

\begin{tabular}{|l|c|c|c|c|c|c|} \hline Year: & 0 & 1 & 2 & 3 & 4 & 5 \\ \hline Free Cash Flow: & $30,000,000 & $7,100,000 & $7,100,000 & $7,100,000 & $7,100,000 & $7,100,000 \\ \hline \end{tabular} \begin{tabular}{|l|c|c|c|c|c|c|} \hline Year: & 0 & 1 & 2 & 3 & 4 & 5 \\ \hline Free Cash Flow: & $30,000,000 & $7,100,000 & $7,100,000 & $7,100,000 & $7,100,000 & $7,100,000 \\ \hline \end{tabular}