company x has a capital structure which is based on 60 percent debt, 20 percent

Question

company x has a capital structure which is based on 60 percent debt, 20 percent preferred stock and 20 percents common stock. The pre-tax cost of debt is 5 percent, the cost of preferred is 9 percent, and the cost of commont stock is 12 percent. The company's tax rat is 30 percent. The company is considering a project that is equally as risky as the overall firm. This project has initial costs of 3,000 and annual cash inflows of $700, $1900, and $6000 over the next three years respectively. What is the projected net present value of this project?

A 3520

B 3924

C 4335

D 4007

E 3957

Explanation / Answer

After tax cost of debt=5(1-0.3)=3.5%

WACC=Respective costs*Respective weights

=(0.6*3.5)+(0.2*9)+(0.2*12)=6.3%

Present value of inflows=cash inflow*Present value of discounting factor(rate%,time period)

=700/1.063+1900/1.063^2+6000/1.063^3

=7335.16(Approx)

NPV=Present value of inflows-Present value of outflows

=7335.16-$3000

=4335(Approx).

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