Question

The following 5-year project requires equipment that costs $100,000. If undertaken, the shareholders will contribute $25,000...

The following 5-year project requires equipment that costs $100,000. If undertaken, the shareholders will contribute $25,000 cash and borrow $75,000 with an interest-only loan with a maturity of 5 years and annual interest payments. The equipment will be depreciated straight-line to zero over the 5-year life of the project. There will be a pre-tax salvage value of $5,000. There are no other start-up costs at year 0. During years 1 through 5, the firm will sell 25,000 units of product at $5; variable costs are $3; there are no fixed costs.   i = rdebt = 10% and Tax rate = 34%

What is the NPV of the project using the WACC methodology? (Proper order of execution: get the WACC first, then get the OCF, then calculate the PV of the OCFs and add up to get the NPV)

Homework Answers

Answer #1
Capital 25000
Debt 75000
Equity-debt ratio 25:75
Cost of capital 10 2.5
Cost of debt (after tax) 6.6 4.95
Total cost of capital (WACC) 7.45
T0 T1 T2 T3 T4 T5
Equipment cost -100000
Interest on debt after tax -4950 -4950 -4950 -4950 -4950
Depreciation tax saving 6800 6800 6800 6800 6800
Sale of equipment after tax 3300
Profit on sales after tax 33000 33000 33000 33000 33000
Net PV -100000 34850 34850 34850 34850 38150
PV for WACC 1 0.930665 0.866138 0.806085 0.750195 0.698181
NPV -100000 32434 30185 28092 26144 26636
Total NPV 43491
Sale units 25000
Sale price 5
Variable cost 3
Profit per unit 2
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