Question

The Also Horns Corp. is planning on introducing a new line of saxophones. They expect sales to be $400,000 with total fixed and variable costs representing 70% of sales. The discounted rate of the unlevered equity is 17%, but the firm plans to raise $144,385 of the initial $450,000 investment as 9% perpetual debt. The corporate tax rate is 40% and the target debt to asset (or value) ratio is 0.3.

In addition to the information above, suppose the APV approach is used to evaluate the project for the next 4 questions.

3. How much is the unlevered cash flow?

$72,000

$84,000

$100,000

$120,000

$144,000

1 points   

QUESTION 77

1. What is the NPV of the project to an all-equity firm?

$-34,451

$-26,471

$-12,417

$25,376

$34,451

1 points   

QUESTION 78

1. What is the NPV of the financing side effects (NPVF)?

$44,334

$57,754

$62,250

$65,000

$75,250

1 points   

QUESTION 79

1. What is the APV of the project?

$12,341

$27,799

$31,283

$35,779

$45,337

Answer 1

3)	Unlevered cash flow = 400000*(1-70%)*(1-40%) =	$          72,000
4)	NPV = 72000/17%-450000 =	$         -26,471
78)	NPV of the financing side effects is the PV of the tax shield on interest on debt discounted at the after tax cost of debt:
	Annual tax shield on interest = 144385*9%*40% =	$       5,197.86
	After tax cost of debt = 9*(1-40%) =	5.40%
	PV of the perpetual tax shield = 5197.86/9%=	$          57,754
79)	APV = Unlevered NPV+NPV of financing side effects =    -26471+57754 =	$          31,283