None You are evaluating a project that requires an investment of $96 today and garantees a single cash flow of $117 one yearfrom now. You decide to use 100% debt financing, that is, you will borrow $96. The risk-free rate is 7% and the tax rateis 31 %. Assume that the investment is fully depreciated at the end of the year, so without leverage you would owetaxes on the difference between the project cash flow and the investment, that is, $21.a. Calculate the NPV of this investment opportunity using the APV method.b. Using your answer to part (a), calculate the WACC of the project.c. Verify that you get the same answer using the WACC method to calculate NPV.d. Finally, show that flow-to-equity method also correctly gives the NPV of this investment opportunity.

a. Calculating the NPV using the APV (Adjusted Present Value) method:The APV method has two…

Answered: You are evaluating a project that…

Cornerstones of Cost Management (Cornerstones Series)

4th Edition

ISBN:9781305970663

Author:Don R. Hansen, Maryanne M. Mowen

Publisher:Don R. Hansen, Maryanne M. Mowen

Chapter19: Capital Investment

Section: Chapter Questions

Problem 13E: Buena Vision Clinic is considering an investment that requires an outlay of 600,000 and promises a...

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Mason, Inc., is considering the purchase of a patent that has a cost of $85000 and an estimated revenue producing lite of 4 years. Mason has a required rate of return that is 12% and a cost of capital of 11%. The patent is expected to generate the following amounts of annual income and cash flows: A. What is the NPV of the investment? B. What happens if the required rate of return increases?
Jasmine Manufacturing is considering a project that will require an initial investment of $52,000 and is expected to generate future cash flows of $10,000 for years 1 through 3, $8,000 for years 4 and 5, and $2,000 for years 6 through 10. What is the payback period for this project?
Foster Manufacturing is analyzing a capital investment project that is forecast to produce the following cash flows and net income: The payback period of this project will be: a. 2.5 years. b. 2.6 years. c. 3.0 years. d. 3.3 years.
Tropical Sweets is considering a project that will cost $70 million and will generate expected cash flows of $30 million per year for 3 years. The cost of capital for this type of project is 10%, and the risk-free rate is 6%. After discussions with the marketing department, you learn that there is a 30% chance of high demand with associated future cash flows of $45 million per year. There is also a 40% chance of average demand with cash flows of $30 million per year as well as a 30% chance of low demand with cash flows of only $15 million per year. What is the expected NPV?
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You are evaluating a project that requires an investment of $102 today and garantees a single cash flow of $127 one year from now. You decide to use 100% debt financing, that is, you will borrow $102. The risk-free rate is 5% and the tax rate is 39%. Assume that the investment is fully depreciated at the end of the year, so without leverage you would owe taxes on the difference between the project cash flow and the investment, that is, $25. Calculate the NPV of this investment opportunity using the APV method. (Round to two decimalplaces.) Using your answer to part (1), calculate the WACC of the project. (Round to two decimalplaces.) Verify that you get the same answer using the WACC method to calculate NPV. (Round to two decimalplaces.) Finally, show that flow-to-equity method also correctly gives the NPV of this investment opportunity. (Round to two decimalplaces.)
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Consider a project with free cash flow in one year of $139,138 or $187,005, with either outcome being equally likely. The initial investment required for the project is $110,000, and the project's cost of capital is 23%. The risk-free interest rate is 7%. (Assume no taxes or distress costs.) a. What is the NPV of this project? b. Suppose that to raise the funds for the initial investment, the project is sold to investors as an all-equity firm. The equity holders will receive the cash flows of the project in one year. How much money can be raised in this way that is, what is the initial market value of the unlevered equity? c. Suppose the initial $110,000 is instead raised by borrowing at the risk-free interest rate. What are the cash flows of the levered equity, and what is its initial value according to M&M? a. What is the NPV of this project? The NPV is $ 22578. (Round to the nearest dollar.) b. Suppose that to raise the funds for the initial investment, the project is sold to…
Your firm is considering a project with the following cash flows: You learn that the firm can abandon the project, if it so chooses, after 1 year of operation,in which case it can sell the asset and receive $15,000 in cash at the end of Year 2. Assumethat all cash flows are after-tax amounts. The WACC is 12%.a. What is the project’s expected NPV without the abandonment option?b. What is the expected NPV with the abandonment option?c. What is the value of the abandonment option?
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