Question

Your company is considering a new project, and you have the following information: Two years ago,...

  1. Your company is considering a new project, and you have the following information:
  • Two years ago, the company paid $1,000,000 for the land and building that will house the project. The property could be sold for $3,000,000 today. Its book value is the purchase price.
  • One year ago, the firm spent $100,000 on initial marketing for the project.
  • The project requires the purchase of a machine (in year 0) for $500,000. The machine will be fully depreciated straight-line in years 1-5.
  • The project will generate sales of $800,000 per year and expenses of $550,000 per year for years 1-5.
  • The firm will pay $15,000 in interest on debt that will be used to fund the project.
  • In year 1, the firm must increase its inventory by $25,000. It will maintain the new level of inventory through year 5.
  • The marginal tax rate is 35%.
  1. In your NPV calculation, what cash flow should you use for year 0?
  2. In your NPV calculation, what cash flow should you use for year 1?

  1. Finding WACC: A firm has $10 billion in debt, $40 billion in equity, and a tax rate of 35%. The pre-tax cost of debt and equity are 6% and 10%, respectively. What discount rate should it use for a typical project?

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