General Motors (GM) was evaluating the acquisition of Hughes Aircraft Corporation. Recognizing that the appropriate WACC for discounting the projected cash flows for Hughes was different from its WACC, GM assumed that Hughes was of approximately the same risk as Lockheed or Northrop. Consider the following information:

 

Target D/E for acquisition of Hughes = 1

Hughes’ expected unlevered cash flow next year = $300 million

Growth rate of cash flows for Hughes = 5% per year

Corporate tax rate = 34%

All corporate debts are risk free, static and perpetual Risk free rate = 8%

Expected return of the market portfolio = 14%

Question)

Apply the APV method:

(a) Value of the unlevered assets of Hughes

(b) PV of the tax shield

Transcribed Image Text:

Comparison Firm GMⓇ Lockheed Northrop PE 1.20 0.90* 0.85€ D/E+ 0.40+ P 0.90€ 0.70- + 4 + Comparison Firm GMⓇ Lockheed Northrop PE 1.20 0.90* 0.85€ D/E+ 0.40+ P 0.90€ 0.70- + 4 +

Answer rating: 100% (QA)

The calulation need to be done through NPV method theref... View the full answer