Question

Daniel Kaffe, CFO of Kendrick Enterprises, is evaluating a 10-year, 5.5 percent loan with gross proceeds of $5,950,000. The interest payments on the loan will be made annually. Flotation costs are estimated to be 1.4 percent of gross proceeds and will be amortized using a straight-line schedule over the 10-year life of the loan. The company has a tax rate of 40 percent, and the loan will not increase the risk of financial distress for the company. a. Calculate the net present value of the loan excluding flotation costs. b. Calculate the net present value of the loan including flotation costs.

Answer 1

NPV Loan = Gross Proceeds-After-tax present value of interest and principal payments 4 Gross proceeds 5950000 Annual Interest net of tax 196350 Bullet payment 5950000 10 Present value 4963324.78 12 13 14 a NPV 986675.22 Gross proceeds 16 17 18 19 Annual Interest net of tax 196350 Bullet payment 5950000 Present value 4963324.78 21 NPV 903375.22

NPV Loan = Gross Proceec 4 Gross proceeds 5950000 Annual Interest net of tax :5950000*5.5% * (1-40%) 5950000 Bullet payment Present value -PV(5.5%, 10,07, D8) 12 NPV -D5-D10 14 a Gross proceeds :5950000* (1-1.496) 16 17 18 19 Annual Interest net of tax :5950000*5.5% * (1-40%) 5950000 Bullet payment Present value =PV(5.5%, 10,016,-017) 21 NPV -D14-D19