Question

Hankins, Inc., is considering a project that will result in initial aftertax cash savings of $7 million at the end of the first year, and these savings will grow at a rate of 3 percent per year indefinitely. The firm has a target debt-equity ratio of .69, a cost of equity of 13.4 percent, and an aftertax cost of debt of 6.4 percent. The cost-saving proposal is somewhat riskier than the usual project the firm undertakes; management uses the subjective approach and applies an adjustment factor of +3 percent to the cost of capital for such risky projects.
a.	Calculate the required return for the project. (Do not round intermediate calculations and enter your answer as a percent rounded to 2 decimal places, e.g., 32.16.)
b.	What is the maximum cost the company would be willing to pay for this project? (Do not round intermediate calculations and round your answer to 2 decimal places, e.g., 32.16.)

Answer 1

1.
=0.69/1.69*6.4%+1/1.69*13.4%+3%
=13.5420118343195%

2.
=7/(13.5420118343195%-3%)
=66.40098788