A 5-year project will require an investment of $100 million. This comprises of plant and machinery worth $80 million and a net working capital of $20 million. The entire outlay will be incurred at the project’s commencement. Financing for the project has been arranged as follows: 80,000 new common shares are issued, the market price of which is $500 per share. These shares will offer a dividend of $4 per share in year 1, which is expected to grow at a rate of 9% per year for an indefinite tenure. Remaining funds are borrowed by issuing 5-year, 9% semi-annual bonds, each bond having a face value of $1,000. These bonds now have a market value of $1,150 each. At the end of 5 years, fixed assets will fetch a net salvage value of $30 million, whereas the net working capital will be liquidated at its book value.  The project is expected to increase revenues of the firm by $120 million per year. Expenses, other than depreciation, interest, and tax, will amount to $80 million per year. The firm is subject to a tax rate of 30% Plant and machinery will be depreciated at the rate of 25% per year as per the written-down value method. You are required to: Sub Part left to be done 4. Determine the initial cash flow for the project. 5. Determine the earnings before taxes for years 1 through 5  6. Compute the OCF for years 1 through 5  7. Compute the Terminal cash flow.  8. Compute the FCF for years 1 through 5  9. Compute the project’s NPV and IRR  10. Should the project be accepted or rejected?

EBK CFIN
6th Edition
ISBN:9781337671743
Author:BESLEY
Publisher:BESLEY
Chapter11: The Cost Of Capital
Section: Chapter Questions
Problem 18PROB
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Sub-part left to be done are questions 4-10

A 5-year project will require an investment of $100 million. This comprises of plant and
machinery worth $80 million and a net working capital of $20 million. The entire outlay will
be incurred at the project’s commencement.
Financing for the project has been arranged as follows:

80,000 new common shares are issued, the market price of which is $500 per share. These
shares will offer a dividend of $4 per share in year 1, which is expected to grow at a rate of 9%
per year for an indefinite tenure.

Remaining funds are borrowed by issuing 5-year, 9% semi-annual bonds, each bond having a
face value of $1,000. These bonds now have a market value of $1,150 each.

At the end of 5 years, fixed assets will fetch a net salvage value of $30 million, whereas the net
working capital will be liquidated at its book value. 

The project is expected to increase revenues of the firm by $120 million per year. Expenses,
other than depreciation, interest, and tax, will amount to $80 million per year. The firm is subject
to a tax rate of 30%

Plant and machinery will be depreciated at the rate of 25% per year as per the written-down value method.

You are required to:


Sub Part left to be done


4. Determine the initial cash flow for the project.
5. Determine the earnings before taxes for years 1 through 5 
6. Compute the OCF for years 1 through 5 

7. Compute the Terminal cash flow. 
8. Compute the FCF for years 1 through 5 
9. Compute the project’s NPV and IRR 
10. Should the project be accepted or rejected? 

 

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