3M has a capital structure that is based on 3 0 percent debt, 10 percent preferr

Question

3M

has a capital structure that is based on 3

0 percent debt, 10 percent

preferred

stock,

and

60 percent

common

stock. The pre

-

tax c

ost of debt is 8 percent, the

cost of

preferred is 9 percent, and the cost of

common

stock

is 11 percent.

The

company's tax

rate is 34 percent. The company is considering a project that is equally as risky as the

overall firm. This project has initial costs of $250,000

and

cash inflows of $94,000 a

year for three years. What is the projected net

present value of this project?

Explanation / Answer

Answer.

WACC = Weight of Debt*Before-tax Cost of Debt*(1-tax) + Weight of Common Stock*Cost of Common Stock + Weight of Preferred Stock*Cost of Preferred Stock
WACC = 30%*8%*(1-0.34) + 60%*11% + 10%*9%
WACC = 9.084%

Initial Cost = $250,000
Cash Inflows = $94,000

NPV = -$250,000 + $94,000/1.09084 + $94,000/1.09084^2 + $94,000/1.09084^3
NPV = -$12,414.07

So, net present value of this project is -$12,414.07

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