Assessing Methodologies Term Paper

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Corporate Finance

WACC = ((E/V) * Re) + [((D/V) * Rd)*(1-T)]

where E = Market value of the company's equity

D = Market value of the company's debt

V = Total Market Value of the company (E + D)

Re = Cost of Equity

Rd = Cost of Debt

T= Tax Rate

In this case, we have the following values for these parameters:

E/V = percentage of equity to finance the project = 60%

D/V = percentage of debt to finance the project = 40%

Re = Cost of Equity = required return by stockholders = 18.36%

Rd = Cost of Debt = required return by debt holders = 10.68%

T= Tax Rate = 36% = 0.36

As such,

WACC = ((0.

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6) * 0.1836) + [((0.4) * 0.1068)*(1-0.36)] = 0.027 = 2.7%

The firm's weighted average cost of capital is 2.7%.

b. The Net Present Value is calculate according to the formula below.

Here, the discount rate (r) is equal to the weighted average cost of capital. So, r = 2.7% = 0.027

The initial investment (C0) is equal to the cost of the project, which is $45,000.

The cash flows C. are each equal to $13,000 for the next 20 years. So, T = 20. The formula now becomes

NPV = C x

(1 ? (1 + r)-T)

Initial Investment

NPV = $13,000 X (1-1.027-20) - $45,000 = -$35,851.....

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