Muller, Inc., manufacturer of cardboard boxes, is considering taking on a new line of quality stationery, a related but very different field than cardboard boxes. Management has prepared a, six-year forecast for the project planning to reevaluate the venture after that time. The forecast anticipates that the project will cost $2 million to start after which it will generate $500,000 in each of the next six years. To be conservative a $200,000 shut down cost at the end of the sixth year has also be forecast. Muller's beta is 1.2, but Nugent Paper, a rival stationery manufacturer that does nothing else, is known to have a beta of 1.6. The return on an average stock is 9%, and the risk free rate is 5%. Muller's cost of capital is 8%.
a. What is the NPV of the stationery project if Muller uses the traditional cost of capital method for calculating NPV?
b. Assume that Nugent Paper is a pure play company for Muller's project. What is the NPV of the project using Nugent Paper and the pure play method?
c. What should Muller do? Why?

Question

Muller, Inc., manufacturer of cardboard boxes, is considering taking on a new line of quality stationery, a related but very different field than cardboard boxes. Management has prepared a, six-year forecast for the project planning to reevaluate the venture after that time. The forecast anticipates that the project will cost $2 million to start after which it will generate $500,000 in each of the next six years. To be conservative a $200,000 shut down cost at the end of the sixth year has also be forecast. Muller's beta is 1.2, but Nugent Paper, a rival stationery manufacturer that does nothing else, is known to have a beta of 1.6. The return on an average stock is 9%, and the risk free rate is 5%. Muller's cost of capital is 8%. 
a. What is the NPV of the stationery project if Muller uses the traditional cost of capital method for calculating NPV? 
b. Assume that Nugent Paper is a pure play company for Muller's project. What is the NPV of the project using Nugent Paper and the pure play method? 
c. What should Muller do? Why?

Quizplus · Accepted Answer

The Answer of Muller, Inc., manufacturer of cardboard boxes, is considering taking on a new line of quality stationery, a related but very different field than cardboard boxes. Management has prepared a, six-year forecast for the project planning to reevaluate the venture after that time. The forecast anticipates that the project will cost $2 million to start after which it will generate $500,000 in each of the next six years. To be conservative a $200,000 shut down cost at the end of the sixth year has also be forecast. Muller's beta is 1.2, but Nugent Paper, a rival stationery manufacturer that does nothing else, is known to have a beta of 1.6. The return on an average stock is 9%, and the risk free rate is 5%. Muller's cost of capital is 8%. 
a. What is the NPV of the stationery project if Muller uses the traditional cost of capital method for calculating NPV? 
b. Assume that Nugent Paper is a pure play company for Muller's project. What is the NPV of the project using Nugent Paper and the pure play method? 
c. What should Muller do? Why?