StataCorp, located in College Station, is a company that is a leader in statistical software industry. StataCorp has only oneproduct: Stata. StataCorp's current sales is $12million, and it expects the sales to stay the same. StataCorp is now considering launching a new product Xanta, which is a more advanced statistical software and has a similar riskiness level as Stata. The company has already spent $1 million to hire Mays Consulting Group to perform a detailed business analysis. Mays Consulting Group found out the following facts:

If StataCorp decides to launch Xanta, it will need to pay$1.2 million royalty fees each year for the next three years (year 1, 2, and 3). Royalty fees are not included in either COGS orSG&A

. StataCorp will be able to sell Xanta for the next three years. The revenue of Xanta is estimated to be $9.6 million each year. Production and sales of Xanta will end after that.

The production cost (including both COGS and SG&A) of Xanta is expected to be 25% of its sales, while the production cost (including both COGS and SG&A) of the Stata is 20% of its sales. Introduction of Xanta will reduce the sales of Stata by25% in each of the three years when Xanta is on the market.

In order to produce Xanta, StataCorp needs to invest $9.6 million in supercomputers now (i.e., in Year 0). These supercomputers can be only used for the Xanta project and their value will be depreciated to zero using 4-year straight line depreciation schedule. However, at the end of Year 3, StataCorp will have the opportunity to sell the supercomputers for$3.6 million.

StataCorp's level of net working capital has always been maintained at a constant level, which is $1.2 million. The Xanta project will require the net working capital to be$3.6million,$2.4 million, and$1.8 million in year 1, 2 and 3, respectively. The level of net working capital will be $1.2 million after year 3.

Corporate tax rate is 35%.

StataCorp's current debt-to-equity ratio is 1/5. Its debt is riskless, and its equity beta is 1.8. The risk-free rate is3% and market risk premium is 6%.

StataCorp plans to finance the Xanta project using 40% of debt and 60% of equity. The debt beta for the new project is estimated to be 0.26.

a. How much incremental free cash flow (FCF) do you expect Xanta project to generate in Year 0 to Year 4? (10 points)

The project generates FCF of _____ million in year 0, ______ million in year 1, _____ million in year 2, _____

million in year 3, and _____million in year 4. (Round to two decimal places.)

b. What discount rate should StataCorp use to discount the cash flows from Xanta project? (6 points)

Stata's asset beta will be _____. The equity beta of Xanta project will be _____. StataCorp should use the discount rate _____% to discount the cash flows from Xanta project. (Round to two decimal places.)

c. What is the net present value (NPV) of Xanta project? (2points)

The NPV of this project will be _____ million. (Round to two decimal places.)

d. If the Xanta project require the net working capital to be$3.6 million, $2.4 million, and $1.2 million in year 1, 2 and 3, respectively. The level of net working capital will be $1.2million after year 3. Should Stata invest in the Xantaproject? (2 points)

Yes, Stata should invest in Xanta.

Or

No, Stata should not invest in Xanta.