Question

You are a consultant to a large manufacturing corporation considering a project with the following net after-tax cash flows (in millions of dollars)

Years from Now		After-Tax CF
0		-22
1–9		12
10		22

The project's beta is 3. Assume r_f = 12% and E (r_M ) = 19%.

Required:
(a)	What is the net present value of the project? (Enter your answer in millions. Round your answer to 2 decimal places.)

Net present value

million

(b)	What is the highest possible beta estimate for the project before its NPV becomes negative? (Round your answer to 3 decimal places.)

  Highest possible beta estimate

Answer 1

a)

The appropriate discount rate for the company’s equity is:

=12%+3*(19%-12%)

=33%

NPV is 12.84 million

b)

To calculate the highest possible β estimate (and therefore the highest possible discount rate) for a positive NPV, calculate the projects IRR

IRR is 54.15%

So the highest β before the hurdle rate exceeds the IRR is:

=(54.15%-12%)/(19%-12%)

=6.021