The Wrought Sisters Company (WSC) produces foam model airplanes for the hobby industry.

WSC has managed to be debt free to date. There are 100,000 ordinary shares outstanding, with a market capitalization of $2 million. Equity holders require a return of 10 percent on their investment.

WSC intends to diversify by manufacturing a new line of balsa wood model airplanes. This venture will not raise the risk level of the company. The equipment to make such airplanes cost $12,000, which will be the depreciable base. WSC uses straight-line depreciation for its non-current assets. The equipment is expected to last 3 years, at which time the equipment will be sold for $2,000 (after tax). The expected demand is 1,000 balsa airplanes per year. Each new airplane will be priced at $20 in the first year and thereafter rise at 5 percent per year. Total variable costs are expected to be $4 per airplane. The corporate tax is at 15 percent.

Required:

1. Compute the value added to the company if it diversifies. (40 marks)

2. What is the price per share of WSC if the new investment is undertaken? Make a reasoned recommendation on the new investment. (10 marks)