Defense Electronics Corporation is considering building an overseas manufacturing facility to produce radar detection systems. As a consultant to DEC, you have the contract to determine the appropriate discount rate for evaluating this project. Current information regarding DEC includes: Debt: 25,000 bonds outstanding, each with a coupon rate of 6.5% paid semi-annually, par value of $1,000, maturity of 20 years, and current value of 96% of par. Common Stock: 400,000 shares outstanding with a current value of $89/share. An annual dividend of $4.74 has just been paid, and dividends are expected to grow by 9% annually into the foreseeable future. Preferred Stock: 35,000 shares of 6.5% stock with a par value of $100/share, and a current value of $99/share. Tax rate: DEC’s combined tax rate is 34%. Other liabilities: DEC has the usual accounts payable and accruals on its balance sheet, but does not regularly utilize any interest-bearing debt other than the bonds described above. Risk Adjustment: Since the new manufacturing facility is to be built overseas, management is suggesting an adjustment factor of +2% to account for the increased riskiness. Showing your work, recommend an appropriate discount rate for DEC’s proposed venture. You must show your work to receive any credit
Defense Electronics Corporation is considering building an overseas manufacturing
facility to produce radar detection systems. As a consultant to DEC, you have the contract
to determine the appropriate discount rate for evaluating this project.
Current information regarding DEC includes:
Debt: 25,000 bonds outstanding, each with a coupon rate of 6.5% paid semi-annually, par
value of $1,000, maturity of 20 years, and current value of 96% of par.
Common Stock: 400,000 shares outstanding with a current value of $89/share. An annual
dividend of $4.74 has just been paid, and dividends are expected to grow by 9% annually
into the foreseeable future.
Preferred Stock: 35,000 shares of 6.5% stock with a par value of $100/share, and a
current value of $99/share.
Tax rate: DEC’s combined tax rate is 34%.
Other liabilities: DEC has the usual accounts payable and accruals on its
but does not regularly utilize any interest-bearing debt other than the bonds described
above.
Risk Adjustment: Since the new manufacturing facility is to be built overseas,
management is suggesting an adjustment factor of +2% to account for the increased
riskiness.
Showing your work, recommend an appropriate discount rate for DEC’s proposed
venture. You must show your work to receive any credit
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