Alpha Industries is considering a project with an initial cost of $7.4 million. The project will produce cash inflows of $1.54 million a year for 7 years. The firm uses the subjective approach to assign discount rates to projects. For this project, the subjective adjustment is +1.5 percent. The firm has a pre-tax cost of debt of 8.6 percent and a cost of equity of 13.7 percent. The debt-equity ratio is .0.65 and the tax rate is 35 percent. What is the net present value of the project?

Question

Quizplus · Accepted Answer

The net present value (NPV) is calculated by discounting the cash inflows at the project's adjusted discount rate and subtracting the initial cost. The weighted average cost of capital (WACC) is calculated using the cost of debt, cost of equity, debt-equity ratio, and tax rate. The subjective adjustment is added to the WACC to get the project's discount rate. Using this rate, the NPV is calculated, resulting in -$372,951.

Alpha Industries Is Considering a Project with an Initial Cost