3 TataCoo Inc is facing a new investment opportunity. The project will require $ 15 million initial investment and is expected to generate volatile cash flow during the first six years. The estimated after-tax cash flow during year 1 through 6 is given below. From year 7, the after-tax cash flow is expected to grow at a constant growth rate of 2% per year. The company's current balance sheet shows a $2 billion debt in book value and the debt is trading at 90% of book value. The debt beta is 0.6. The market value of equity of the company is $3 billiion and the equity beta is 2.5. The company has kept a stable capital structure in the past. To take this new investment project, the company will issue $10 million new debt at the current borrowing cost. The underwriter charges 1.5% of debt issue as their commission. The company plans to gradually reduce its borrowing in the first 6 years and then return to its previous stable capital structure. Debt repayment scchedule is given below. Assume the corporate tax rate is 21%. Suppose the risk free rate is 5% and market risk return is 9%. A. What is the unlevered beta of the company (unlevered beta=asset beta)? B. Calcualte the required return on assets (unlevered cost of capital), levered cost of capital (return on equity with leverage) and after-tax WACC. C. Calculate the APV of this project. Cashflow Forecast in $M 2 Free cash flow -13.0 -2.0 1.2 1.4 1.8 1.9 2.0 Debt Balance at year end (in $ million) 10.0 9.8 9.5 9.0 8.5 8.3 8.0
3 TataCoo Inc is facing a new investment opportunity. The project will require $ 15 million initial investment and is expected to generate volatile cash flow during the first six years. The estimated after-tax cash flow during year 1 through 6 is given below. From year 7, the after-tax cash flow is expected to grow at a constant growth rate of 2% per year. The company's current balance sheet shows a $2 billion debt in book value and the debt is trading at 90% of book value. The debt beta is 0.6. The market value of equity of the company is $3 billiion and the equity beta is 2.5. The company has kept a stable capital structure in the past. To take this new investment project, the company will issue $10 million new debt at the current borrowing cost. The underwriter charges 1.5% of debt issue as their commission. The company plans to gradually reduce its borrowing in the first 6 years and then return to its previous stable capital structure. Debt repayment scchedule is given below. Assume the corporate tax rate is 21%. Suppose the risk free rate is 5% and market risk return is 9%. A. What is the unlevered beta of the company (unlevered beta=asset beta)? B. Calcualte the required return on assets (unlevered cost of capital), levered cost of capital (return on equity with leverage) and after-tax WACC. C. Calculate the APV of this project. Cashflow Forecast in $M 2 Free cash flow -13.0 -2.0 1.2 1.4 1.8 1.9 2.0 Debt Balance at year end (in $ million) 10.0 9.8 9.5 9.0 8.5 8.3 8.0
Essentials Of Investments
11th Edition
ISBN:9781260013924
Author:Bodie, Zvi, Kane, Alex, MARCUS, Alan J.
Publisher:Bodie, Zvi, Kane, Alex, MARCUS, Alan J.
Chapter1: Investments: Background And Issues
Section: Chapter Questions
Problem 1PS
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Question
Transcribed Image Text:3 TataCoo Inc is facing a new investment opportunity. The project will require $ 15 million initial investment and is expected to generate volatile cash flow during the first six years.
The estimated after-tax cash flow during year 1 through 6 is given below. From year 7, the after-tax cash flow is expected to grow at a constant growth rate of 2% per year.
The company's current balance sheet shows a $2 billion debt in book value and the debt is trading at 90% of book value. The debt beta is 0.6.
The market value of equity of the company is $3 billiion and the equity beta is 2.5.
The company has kept a stable capital structure in the past. To take this new investment project, the company will issue $10 million new debt at the current borrowing cost.
The underwriter charges 1.5% of debt issue as their commission.
The company plans to gradually reduce its borrowing in the first 6 years and then return to its previous stable capital structure.
Debt repayment scchedule is given below. Assume the corporate tax rate is 21%.
Suppose the risk free rate is 5% and market risk return is 9%.
A. What is the unlevered beta of the company (unlevered beta=asset beta)?
B. Calcualte the required return on assets (unlevered cost of capital), levered cost of capital (return on equity with leverage) and after-tax WACC.
C. Calculate the APV of this project.
Cashflow Forecast in $M
1
3
4
Free cash flow
-13.0
-2.0
1.2
1.4
1.8
1.9
2.0
Debt Balance at year end (in $ million)
10.0
9.8
9.5
9.0
8.5
8.3
8.0
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