Question

Joshua Industries is considering a new project with revenue of $478,000 for the indefinite future. Cash costs are 68 percent of the revenue. The initial cost of the investment is $685,000. The tax rate is 21 percent and the unlevered cost of equity is 14.2 percent. The firm is financing $200,000 of the project cost with debt. What is the adjusted present value of the project?

Answer 1

The adjusted present value is computed as follows:

= NPV + value of tax shield

NPV will be as follows:

= [ (Cash inflows - cost) x (1 - tax rate) ] / cost of equity ] - Initial cost

= [ ($ 478,000 - 68% x $ 478,000) x (1 - 0.21) ] / 0.142 ] - $ 685,000

= [ ($ 152,960 x 0.79) / 0.142 ] - $ 685,000

= $ 165,974.6479

So, the amount will be as follows:

= $ 165,974.6479 + Debt x Tax rate

= $ 165,974.6479 + $ 200,000 x 21%

= $ 165,974.6479 + $ 42,000

= $ 207,974.65

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