A company has a beta of 1.5. The market risk premium is 8%. The risk free rate i
ID: 2720112 • Letter: A
Question
A company has a beta of 1.5. The market risk premium is 8%. The risk free rate is 6%. The tax rate is 40%. This company can borrow at a 10% interest rate. The D/E ratio is 1. This company is considering two mutually exclusive projects with the following net cash flows.
Year
0
1
2
3
4
5
6
7
Project A
-300
-387
-193
-100
600
600
850
-180
Project B
-405
134
134
134
134
134
134
0
What is the WACC of this company?
Calculate the NPV, IRR, MIRR? (Hint: Consider both projects end in Year 7.)
Based on the answers to parts a and b, which project should be accepted?
Assume that the WACC is changed to 18%, which project should be accepted?
Year
0
1
2
3
4
5
6
7
Project A
-300
-387
-193
-100
600
600
850
-180
Project B
-405
134
134
134
134
134
134
0
Explanation / Answer
WACC: PRODUCT A : (2.52/3.811) = 0.6612 OR 66.12%
PRODUCT B : (63.6 / 3.811) = 16.68%
NPV:
AS PER NPV : PROJECT B SHOULD BE ACCEPTED
IRR : PROJECT A : 18.09%
PROJECT B : 18.34%
AS PER IRR: PROJECT B SHOULD BE ACCEPTED.
MIRR:
PROJECT A:
Positive Values: 850 * 1 =850
600 * 1.180 = 708
600 * 1.392 = 835
total = 2393
Negative values: -300 * 1 = -300
-387 * 0.909 = -351.78
-193 * 0.826 = - 159.42
-100 * 0.751 = -75.10
-180 * 0.513 = -92.34
total = -978.64
MIRR = 7 SqRt (2393/978.64) -1
PRODUCT B:
Positive values: 134 * 1.180 = 158.12
134 * 1.392 = 186.53
134 * 1.643 = 220.16
134 * 1.939 = 259.82
134 * 2.288 = 306.60
total = 1131.23
Nagetive values: -405
MIRR = 6SqRt (1131.23/405) -1
Assume that the WACC is changed to 18%, the project B. should be accepted being higher WACC.
year Proj A Cash flow discount rate NPV ProjB Cash flow discount rate NPV 0 -300 1 -300 -405 1 -405 1 -387 0.847 -327.79 134 0.847 113.5 2 -193 0.718 -138.57 134 0.718 96.21 3 -100 0.609 -60.90 134 0.609 81.61 4 600 0.516 309.60 134 0.516 69.14 5 600 0.437 262.20 134 0.437 58.56 6 850 0.370 314.50 134 0.370 49.58 7 -180 0.314 -56.52 0 0.314 0 NPV 3.811 +2.52 NPV +63.6Related Questions
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