Alaskan Markets has a target capital structure of 40 percent debt and 60 percent equity.The pretax cost of debt is 6.3 percent,the tax rate is 35 percent,and the cost of equity is 14.6 percent.The firm is considering a project that is equally as risky as the overall firm.The project has an initial cash outflow of $1.92 million and annual cash inflows of $562,000 at the end of each year for 4 years.What is the NPV of the project?

Question

Quizplus · Accepted Answer

1. Calculate the Weighted Average Cost of Capital (WACC):
WACC = (0.4 x 6.3%) x (1-0.35) + (0.6 x 14.6%) = 9.24%

2. Calculate the present value of cash inflows:
PV = (562,000 / 1.0924) + (562,000 / (1.0924)^2) + (562,000 / (1.0924)^3) + (562,000 / (1.0924)^4) = $1,784,087.95

3. Calculate the NPV:
NPV = PV - Initial Investment = $1,784,087.95 - $1,920,000 = $-135,912.05

Since the NPV is negative, the project should be rejected.

Alaskan Markets Has a Target Capital Structure of 40 Percent