You are considering a project with an initial investment of $20 million and annual cash flow (before
Question:
You are considering a project with an initial investment of $20 million and annual cash flow (before interest and taxes) of $5,000,000. The project's cash flow is expected to continue forever. The tax rate is 34%, the firm's unlevered cost of equity is 18% and its after-tax cost of debt is 6.60%. The only side-effect from the use of debt that you are concerned about is related to the tax shield.
a.If the project were to be financed with 100% equity, would you accept the project? Why or why not?
b.If the project were to be financed with $10 million in perpetual debt and the rest with equity, use the APV method to help you decide whether to accept the project or not. Does your decision change from part (a)?
c.Redo part (b) by using the FTE approach.
d.Redo part (b) by using the WACC approach.