Question

XYZ Co. has the following information:

Debt outstanding: $150 million

Before tax cost of debt: 6%

Market cap: $525 million

Cost of common stock: 12%

Tax rate: 21%

XYZ Co. is evaluating a project with the following information:

Over the next five years EBIT will equal: 15 million, 17 million, 20 million, 22 million, 25 million respectively.  

An investment of $3 million is required in net working capital at the beginning of the project, which will be recovered at the end of the project.

The cost of the equipment will be $25 million depreciated using straight-line to zero over the projects life, with no salvage value.

The project requires an additional 2% risk premium above the firms WACC.

a) What is the WACC for the firm? Enter percentages as decimals and round to 4 decimals

b) What are the operating cash flows for the first year of the project? Enter percentages as decimals and round to 4 decimals

c) What is the net present value for the project? Enter percentages as decimals and round to 4 decimals

Answer 1

WACC = wd x rd x (1 - tax) + we x re

= 150 / (150 + 525) x 6% x (1 - 21%) + 525 / (150 + 525) x 12%

= 10.3867%

	0	1	2	3	4	5
Investment	-25
NWC	-3					3
EBIT		15	17	20	22	25
Tax (21%)		-3.15	-3.57	-4.2	-4.62	-5.25
Profits		11.85	13.43	15.8	17.38	19.75
Cash Flows	-28	16.85	18.43	20.8	22.38	27.75
NPV	$45.74

Operating Cash Flows (OCF) = EBIT x (1 - tax) + Depreciation = 15 x (1 - 21%) + 25 / 5 = $16.85 million

Cash Flows = OCF + Investment + NWC

NPV can be calculated using the same function in excel or calculator with discount rate = 10.3867% + 2% = 12.3867%