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Nicky "O" is a transport company that wishes to evaluate an investment in new production machinery. The machinery would enable the company to satisfy increasing demand for existing services and the investment is not expected to lead any change in the existing level of business risk of Nicky "O". The machinery will cost GH¢3 million, payable at the start of the first year of operation, and is expected to have a scrap value of GH¢600,000. Annual before-tax net cash flows of GH¢780,000 per year would be generated by the investment in each of the four years of its expected useful life. The company's required rate of return is 9%. Nicky "O" has in issue four million shares with market value of GH¢2.50 per share. The equity beta of the company is 1.29. The income on short-term government debt is 3.5% per annum and the equity risk premium is estimated 5% per annum. The company also has 8% five million Preference shares which is currently trading at GH¢0.70. The debt finance of Nicky "O" consist of bonds with a total book value of GH¢S million. These bonds pay annual interest before tax of 6%. The par value and market value of each bond is GH¢100. The company pays tax 35% per annum. Note that, for investment purposes, the company cash flows are not taxed. Required: a. Calculate the after-tax Weighted Average Cost of Capital of Nicky 'O' Co. b. State five factors affecting WACC in investment appraisal.

Nicky "O" is a transport company that wishes to evaluate an investment in new production machinery. The machinery would enable the company to satisfy increasing demand for existing services and the investment is not expected to lead any change in the existing level of business risk of Nicky "O". The machinery will cost GH¢3 million, payable at the start of the first year of operation, and is expected to have a scrap value of GH¢600,000. Annual before-tax net cash flows of GH¢780,000 per year would be generated by the investment in each of the four years of its expected useful life. The company's required rate of return is 9%. Nicky "O" has in issue four million shares with market value of GH¢2.50 per share. The equity beta of the company is 1.29. The income on short-term government debt is 3.5% per annum and the equity risk premium is estimated 5% per annum. The company also has 8% five million Preference shares which is currently trading at GH¢0.70. The debt finance of Nicky "O" consist of bonds with a total book value of GH¢S million. These bonds pay annual interest before tax of 6%. The par value and market value of each bond is GH¢100. The company pays tax 35% per annum. Note that, for investment purposes, the company cash flows are not taxed. Required: a. Calculate the after-tax Weighted Average Cost of Capital of Nicky 'O' Co. b. State five factors affecting WACC in investment appraisal.

Intermediate Financial Management (MindTap Course List)
Intermediate Financial Management (MindTap Course List)
13th Edition
ISBN:9781337395083
Author:Eugene F. Brigham, Phillip R. Daves
Publisher:Eugene F. Brigham, Phillip R. Daves
Chapter12: Capital Budgeting: Decision Criteria
Section: Chapter Questions
Problem 17P: The Perez Company has the opportunity to invest in one of two mutually exclusive machines that will...
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Nicky "O" is a transport company that wishes to evaluate an investment in new production machinery. The machinery would enable the company to satisfy increasing demand for existing services and the investment is not expected to lead any change in the existing level of business risk of Nicky "O". The machinery will cost GH¢3 million, payable at the start of the first year of operation, and is expected to have a scrap value of GH¢600,000. Annual before-tax net cash flows of GH¢780,000 per year would be generated by the investment in each of the four years of its expected useful life. The company's required rate of return is 9%. Nicky "O" has in issue four million shares with market value of GH¢2.50 per share. The cquity beta of the company is 1.29. The income on short-term government debt is 3.5% per annum and the equity risk premium is estimated 5% per annum. The company also has 8% five million Preference shares which is currently trading at GH¢0.70. The debt finance of Nicky "O" consist of bonds with a total book value of GH¢5 million. These bonds pay annual interest before tax of 6%. The par value and market value of each bond is GH¢100. The company pays tax 35% per annum. Note that, for investment purposes, the company cash flows are not taxed. Required: a. Calculate the after-tax Weighted Average Cost of Capital of Nicky O' Co. b. State five factors affecting WACC in investment appraisal.
Transcribed Image Text:Nicky "O" is a transport company that wishes to evaluate an investment in new production machinery. The machinery would enable the company to satisfy increasing demand for existing services and the investment is not expected to lead any change in the existing level of business risk of Nicky "O". The machinery will cost GH¢3 million, payable at the start of the first year of operation, and is expected to have a scrap value of GH¢600,000. Annual before-tax net cash flows of GH¢780,000 per year would be generated by the investment in each of the four years of its expected useful life. The company's required rate of return is 9%. Nicky "O" has in issue four million shares with market value of GH¢2.50 per share. The cquity beta of the company is 1.29. The income on short-term government debt is 3.5% per annum and the equity risk premium is estimated 5% per annum. The company also has 8% five million Preference shares which is currently trading at GH¢0.70. The debt finance of Nicky "O" consist of bonds with a total book value of GH¢5 million. These bonds pay annual interest before tax of 6%. The par value and market value of each bond is GH¢100. The company pays tax 35% per annum. Note that, for investment purposes, the company cash flows are not taxed. Required: a. Calculate the after-tax Weighted Average Cost of Capital of Nicky O' Co. b. State five factors affecting WACC in investment appraisal.
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