NEC is considering a $45M project in its power systems division. The CFO estimat

Question

NEC is considering a $45M project in its power systems division. The CFO estimates that the project’s unlevered cash flows will be $3.1M per year, in perpetuity. The CFO has devised two possibilities for raising the initial capital: Issuing 10-year bonds or issuing common stock. NEC’s pretax cost of debt is 6.9%, and its cost of equity is 10.8%. The company’s target debt-to-value ratio is 80%. The project has the same risk as NEC’s existing businesses, and it will support the same amount of dent. NEC is in the 34% tax bracket. Should NEC accept this project?

Explanation / Answer

Ans

Details Amount Cost of The Project            450,00,000.00 Unlevered Cash Flow               31,00,000.00 WACC Post tax cost of Debt*Weight+Cost of equity * Weight 6.9%*(1-.34)*8/10+10.8%*2/10 5.80320% Present Value of cash inflow=Unlevered cash flow/WACC of the Project 3100000/0.058032            534,18,803.42 NPV=PV of cash inflow-Cost of the project               84,18,803.42

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