Question

Hollister & Hollister (H&H) is considering a new project. The project will require $522,000 for new fixed assets, $218,000 for additional inventory, and $39,000 for additional accounts receivable. Short-term debt (accounts payable/notes payable) is expected to increase by $165,000. The project has a 4-year life. The fixed assets will be depreciated under the three-year MACRS schedule to a zero book value over the life of the project. At the end of the project, the fixed assets can be sold for 20% of their original cost. The net working capital returns to its original level at the end of the project. The project is expected to generate annual sales of $975,000 with costs equal to 60% of revenues. H&H’s corporate tax rate is 34%.

H&H has 31,500 bonds outstanding with a 6.75% coupon rate, paid semi-annually, and 19 years left until maturity. These bonds are currently selling at 103% of par. They also have 2 million common shares outstanding that are currently selling at $11.50/share and have a beta of 1.3. The expected return on the market is 11% and the return on short-term U.S. T-bills is 2.5%.

What is this project’s discounted payback period? (Round answer to 1 decimal place. Do not round intermediate calculations).

Answer 1