Nancy and bety are the respective CFO and CEO at XYZ company reputable publicly traded corporation that deals with the manufacturing and trading of building materials. They are fighting over a capital budgeting decision to adopt a new project as follows:

In year 0, the project requires $15,000 investment in plant and equipment, is depreciated using the straight-line method over three years and there is a salvage value of $5,000 in year 3. The project is forecasted to generate sales of 6,000 units in year 1, rising to 9,000 units in year 2, then declining to 7,000 units in year 3. The inflation rate is forecasted to be 1.5% in year 1, rising to 2% in year 2, and then 3% in year 3. The tax rate is forecasted to be a constant 21%. Sales revenue per unit is forecasted to be $3 in year 1, and then grow with inflation. Variable cost per unit is forecasted to be $2 in year 1 and then grow with inflation. Cash fixed costs are forecasted to be $1,500 in year 1 and then grow with inflation.

Additionally, the corporation has $1 billion in outstanding debt with current bond price of $1,051.54 with 10 percent coupon and 3 years to maturity. The company’s 50 million shares of common stock sell for $80 per share and have a beta of 1.15. The rate on treasury bills is 5%, and the market risk premium is 9%.

Using the NPV rule, should Nancy and Bety agree in the end and adopt the project?

Answer rating: 100% (QA)

To determine whether Nancy and Bety should agree to adopt the project based on the NPV rule we need ... View the full answer