A firm has a target debt-equity ratio of.37. The cost of debt is 9% and the cost of equity is 15%. The company has a 34% tax rate. A project has an initial cost of $70,000 and an annual after-tax cash flow of $21,000 for six years. There is no salvage value or net working capital requirement. What is the net present value of the project using the WACC?

Question

Quizplus · Accepted Answer

The WACC is calculated using the formula: WACC = (E/V) * Re + (D/V) * Rd * (1-Tc), where E/V is the equity proportion, D/V is the debt proportion, Re is the cost of equity, Rd is the cost of debt, and Tc is the tax rate. With a debt-equity ratio of 0.37, D/V = 0.37/1.37 and E/V = 1/1.37. Plugging in the values, WACC = (1/1.37) * 0.15 + (0.37/1.37) * 0.09 * (1-0.34). Calculate the WACC, then use it to discount the cash flows and find the NPV. The correct NPV is $15,011.

A Firm Has a Target Debt-Equity Ratio Of