FSB Ltd has a new project under consideration which will cost $10,000,000. The project is expected to

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Question:

FSB Ltd has a new project under consideration which will cost $10,000,000. The project is expected to generate before-tax cash flows of $2,500,000 forever. FSB Ltd is currently operating at its target debt-to-equity ratio of 0.25.

The company wishes to raise the fund for the new project by a new issue of 20-year bonds with a yield to maturity of 9% p.a. (the flotation costs of the new debt would be 4% of the amount raised) and a new issue of ordinary shares priced $10 per share that will pay $1 after one year (D₁) and is expected to grow by 5% pa forever (the flotation costs of the new share issue would be 14% of the amount raised). The company tax rate is 30%.

You are the assistant to the finance manager and is given the responsibility to analyze the project to determine if FSB should accept this project.

Calculate FSB Ltd.'s average percentage floatation cost of the new fund raising.
Calculate FSB Ltd.'s weighted average cost of capital (WACC).
Calculate the net present value (NPV) of the new project.
Explain if FSB Ltd should accept the new project.