Due to the ongoing COVID 19 pandemic, Clear Ltd has decided to expand its sanitation product line to include the production of disposable sterile wipes. The cost of the equipment is $1,575,000 and it will cost $425,000 to install the equipment. The company believes there will be a steady demand for sterile wipes in the coming years and so it expects this project will generate after-tax cash flows of $350,000 per year forever, with the first cash flow starting at the end of the first year. The company tax rate is 30%. Clear Ltd is currently operating at its target debt to equity ratio of 0.25. the company wishes to raise the funds for the new project by a new issue of 5-year bonds with a yield to maturity of6.25% pa (the flotation costs of the new debt would be 2.5% of the amount raised) and a new issue of ordinary shares (the flotation costs of the new share issue would be 10% of the amount raised). Clear Ltd has a beta of 1.75, the risk-free rate is 2.5% pa and the market risk premium is 7%pa. Calculate the net present value (NPV) of the new project, Explain if the company should accept this project or not. (Show answer in dollars, correct to 2 decimal places.) (Hint: follow these steps: first calculate Clear Ltd.’s weighted average flotation cost of the new fund raising, then calculate true cost of the project, then calculate WACC and then NPV of the project)
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Due to the ongoing COVID 19 pandemic, Clear Ltd has decided to expand its sanitation product line to include the production of disposable sterile wipes. The cost of the equipment is $1,575,000 and it will cost $425,000 to install the equipment. The company believes there will be a steady demand for sterile wipes in the coming years and so it expects this project will generate after-tax cash flows of $350,000 per year forever, with the first cash flow starting at the end of the first year. The company tax rate is 30%. Clear Ltd is currently operating at its target debt to equity ratio of 0.25. the company wishes to raise the funds for the new project by a new issue of 5-year bonds with a yield to maturity of6.25% pa (the flotation costs of the new debt would be 2.5% of the amount raised) and a new issue of ordinary shares (the flotation costs of the new share issue would be 10% of the amount raised). Clear Ltd has a beta of 1.75, the risk-free rate is 2.5% pa and the market risk premium is 7%pa.
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