Watson, Inc., is an all-equity firm. The cost of the company’s equity is current
ID: 2785144 • Letter: W
Question
Watson, Inc., is an all-equity firm. The cost of the company’s equity is currently 13 percent, and the risk-free rate is 4.1 percent. The company is currently considering a project that will cost $11.58 million and last six years. The company uses straight-line depreciation. The project will generate revenues minus expenses each year in the amount of $3.26 million.
If the company has a tax rate of 40 percent, what is the net present value of the project? (Enter your answer in dollars, not millions of dollars, e.g., 1,234,567. Do not round intermediate calculations and round your answer to 2 decimal places, e.g., 32.16.)
Net present value $_______
Explanation / Answer
Depreciation =11.58/6 = 1.93
Income after tax = [sales-expenses-depreciation][1-tax]
=[3.26-1.93][1-.40]
= 1.33*.6
= .798 miillion
Cash flow =Net income after tax+depreciation (non cash)
.798+1.93
= 2.728 million or 2728000
Present value of cash flow =PVA13%,6*Cash flow
= 3.99755*2728000
= $10,905,316.4
NPV =Present value-initial cost
= 10,905,316.4- 11,580,000
= - 674,683.6
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