You are a consultant to a firm evaluating an expansion of its current business.
ID: 2769339 • Letter: Y
Question
You are a consultant to a firm evaluating an expansion of its current business. The cash-flow forecasts (in millions of dollars) for the project are as follows:
On the basis of the behavior of the firm’s stock, you believe that the beta of the firm is 1.46. Assume that the rate of return available on risk-free investments is 4% and that the expected rate of return on the market portfolio is 13%.
What is the project IRR? (Do not round intermediate calculations. Enter your answer as a percent rounded to 2 decimal places.)
What is the cost of capital for the project? (Do not round intermediate calculations. Enter your answer as a percent rounded to 2 decimal places.)
You are a consultant to a firm evaluating an expansion of its current business. The cash-flow forecasts (in millions of dollars) for the project are as follows:
Explanation / Answer
First of all we will calculate coast of capital as follow
Cost of Capital
= rate of return of risk-free investments + beta (market portfolit - risk-free rate)
= 4% + 1.46 ( 13%-4%)
=4% +13.14%
=17.14%
Now we will calculate NPV as follow
NPV of the project is -12.7591
NOw we will calculate IRR of the project as follow
IRR =(100) +19(1+r)+19(1+r)2+19(1+r)3+19(1+r)4+19(1+r)5+19(1+r)6+19(1+r)7+19(1+r)8+19(1+r)9+19(1+r)10
By solving above equation by trial and error method we have found IRR =
=13.77%
So IRR =13.77%
NO
Company should reject the project as IRR of the project is less then Required Return of the project
Year CF PV Factor@16.4% PV 0 -100 1 -100 1 19 0.85178876 16.18399 2 19 0.72554409 13.78534 3 19 0.61801029 11.7422 4 19 0.52641422 10.00187 5 19 0.44839371 8.519481 6 19 0.38193672 7.256798 7 19 0.32532941 6.181259 8 19 0.27711193 5.265127 9 19 0.23604083 4.484776 10 19 0.20105692 3.820082 -12.7591
Related Questions
Navigate
Integrity-first tutoring: explanations and feedback only — we do not complete graded work. Learn more.