Question: National Electric Company NEC is considering a 45 million project
National Electric Company (NEC) is considering a $45 million project in its power systems division. Tom Edison, the company’s chief financial officer, has evaluated the project and determined that the project’s unlevered cash flows will be $3.1 million per year in perpetuity. Mr. Edison has devised two possibilities for raising the initial investment: Issuing 10-year bonds or issuing common stock. NEC’s pretax cost of debt is 6.9 percent, and its cost of equity is 10.8 percent. The company’s target debt-to-value ratio is 80 percent. The project has the same risk as NEC’s existing businesses, and it will support the same amount of debt. NEC is in the 34 percent tax bracket. Should NEC accept the project?
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