Question

Blue Angel, Inc., a private firm in the holiday gift industry, is considering a new project. The company currently has a target debt–equity ratio of .45, but the industry target debt–equity ratio is .40. The industry average beta is 1.20. The market risk premium is 8 percent, and the risk-free rate is 6 percent. Assume all companies in this industry can issue debt at the risk-free rate. The corporate tax rate is 40 percent. The project requires an initial outlay of $680,000 and is expected to result in a $100,000 cash inflow at the end of the first year. The project will be financed at the company’s target debt–equity ratio. Annual cash flows from the project will grow at a constant rate of 6 percent until the end of the fifth year and remain constant forever thereafter.

Calculate the NPV of the project.

Answer 1

Initial outlay = 3680000 Company Debt: equity = 0.45 Let west ben savity = 1-X x = vous 1-n x=0.45 0.45X lousna oous ! na 0.31 .. Dest - 0.31 Evity = 1.0.31 = 0.69 Given Rare of Debt = 6% Cost of Equity the (kel a REAB (RM-RE) RE= Risk free Rate (RE) 6% -40% = 3.6% و. له كل مهينا e Rn-RF = 80% ...Bes 3.62 +1.2 (8%) ke = 13.2% weighted to last of capital (WACC) = wokee we cong-tan). - Obax 13.2%. + 0.31 (6-40%) = 9.108% + 1.116 = 10.22%

Edination Year o ก of Cashflauf Coosh flow (6X0,000) 100000 100000 * 0,06) : 100000 (1.00)? ? 1000000 m (1.06)3 2 100000 (1.06h - ๆ ๆ ๆ 10 bou o 112360 119 1024 126227 After - years the Cashflow is present value of constant friever perpetiuity cash flow : Cash flow Discount Rate $12,35,293 - 3_126247_ 0.1022 Calulation of Nov year lash flow _0__ (680,000) 4. 10000 Pu@ 10.22% Tоbоо. 43 112360 119102 126247 1235293 ya ys -Cash flow Discounted (680.000) 9070o 87238 83933 86691 77516 688058 $ 428136 0.907 0.823 0.743. 0.6775 0.614 0.567 NPvc

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