Testa Energy plc is considering investing in a new project for transporting solar energy from Algeria to
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Question:
- Testa Energy plc is considering investing in a new project for transporting solar energy from Algeria to Germany. The investment requires an initial once-and-for-all expenditure of £19.75 million with future cash flows given in the table below (in £ mn)
Year | 1 | 2 | 3 |
Cash flow | 3 | 9 | 12 |
Testa Energy plans to finance this project by selling risk-free zero-coupon bonds maturing at the end of years 1, 2, and 3 respectively which matches the timing of the project cash flow. The current prices of these bonds are given below
Maturing year | 1 | 2 | 3 |
Face value | 3 | 9 | 12 |
price at 0 | 2.75 | 7.5 | 9.5 |
- Calculate the yield to maturity of the zero-coupon bonds maturing at the end of year one, two and three.
- If the projected cash flow is riskless, should the project be pursued by Testa Energy according to the NPV principle? Support your answer with appropriate calculations.
- Suppose an investment project alternative to the above is also put forward for consideration. The cash flow of this project is shown in the table below
0 | 1 | 2 | 3 | |
Alternative project | -20 | 6 | 20 | 10 |
Given the resource constraint of Testa Energy, only one of these two projects can be pursued. Evaluate your choice based on the NPV principle. Would your answer be different if incremental cash flow is used to calculate NPV?
Related Book For
Fundamental Accounting Principles
ISBN: 978-0078110870
20th Edition
Authors: John J. Wild, Ken W. Shaw, Barbara Chiappetta
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