Answered step by step
Verified Expert Solution
Link Copied!

Question

1 Approved Answer

The company is planning an investment in a new business area. Estimates have been made of the investment's life cycle cash flows. Year FCF

The company is planning an investment in a new business area. Estimates have been made of the investments life cycle cash fl 

The company is planning an investment in a new business area. Estimates have been made of the investment's life cycle cash flows. Year FCF [M] 0 -6.4 1 1.5 2 3 3 3.8 4 1 An appropriate cost of capital is still needed to calculate the net present value. The estimate of the risk-free return 2.5% and the return expectation of the market portfolio 7.5%. The company has found three reference companies (A, B and C) whose shares are traded on the securities market and whose business is comparable to the planned investment. A is a fully equity-financed company with a BE of 1.42. The cost of capital ru corresponding to A's business risk is 9.6% In B's market value balance sheet, the debt-equity ratio is 0.125. B's BE is 1.8225 and the liabilities are estimated to be risk- free. In B's market value balance sheet, what is the share of net debt [%] of the total value of the company? Calculate BU corresponding to B's business risk. Calculate the cost of capital rU corresponding to B's business risk. In C's market value balance sheet, the ratio of net debt to equity (debt-equity ratio) is 0.25. The BE of BLES is 2.195. Based on the yield on the company's bonds, the cost of debt is estimated at 3.6%. C's cost of equity is 13.48%. Calculate the cost of capital rU corresponding to the business risk of C. Based on the above calculations and consideration, the company decides to use 10% as the cost of capital (rU) in the investment calculation. Calculate the net present value of the investment. The company estimates that the share of net debt in the company value (debt-to- value ratio) is 40%, and the company aims to maintain this capital structure. Therefore, in the investment calculation, the calculation interest rate should be used as the so-called after-tax WACC. What is this rWACC if the company's income tax rate is 20% and its cost of debt is 4.0%? What is the net present value of the investment project corresponding to the cost of capital you calculated in the previous point? What is the present value of the interest tax protection caused by the investment?

Step by Step Solution

3.52 Rating (155 Votes )

There are 3 Steps involved in it

Step: 1

The detailed answer for the above question is provided below The share of net debt ... blur-text-image

Get Instant Access to Expert-Tailored Solutions

See step-by-step solutions with expert insights and AI powered tools for academic success

Step: 2

blur-text-image

Step: 3

blur-text-image

Ace Your Homework with AI

Get the answers you need in no time with our AI-driven, step-by-step assistance

Get Started

Recommended Textbook for

Valuation The Art and Science of Corporate Investment Decisions

Authors: Sheridan Titman, John D. Martin

3rd edition

133479528, 978-0133479522

More Books

Students also viewed these Accounting questions