Question 1
Part 1
Peter Johnson, the CFO of Homer Industries, Inc is trying to determine the Weighted Cost of Capital (WACC) based on two different capital structures under consideration to fund a new project. Assume the company's tax rate is 30%.
| Component | Scenario 1 | Scenario 2 | Cost of Capital | Tax Rate |
| Debt | $4,000,000.00 | $1,000,000.00 | 8% | 30% |
| Preferred Stock | 1,200,000.00 | 1,500,000.00 | 10% |
|
| Common Stock | 1,000,000.00 | 3,700,000.00 | 13% |
|
| Total | $6,200,000.00 | $6,200,000.00 |
|
|
1-a. Complete the table below to determine the WACC for each of the two capital structure scenarios. (Enter your answer as a whole percentage rounded to 2 decimal places (e.g. .3555 should be entered as 35.55).)
| Scenario 1 Weight % | Scenario 2 Weight % | Scenario 1 Weighted Cost | Scenario 2 Weighted Cost | Cost of Capital | Tax Rate | |
| Debt | ||||||
| Preferred Stock | ||||||
| Common Stock | ||||||
| Total |
1-b. Which capital structure shall Mr. Johnson choose to fund the new project?
multiple choice 1
- Scenario 1
- Scenario 2
Part 2
Assume the new project's operating cash flows for the upcoming 5 years are as follows:
|
| Project A |
| Initial Outlay | $ -6,200,000.00 |
| Inflow year 1 | 1,270,000.00 |
| Inflow year 2 | 1,750,000.00 |
| Inflow year 3 | 1,980,000.00 |
| Inflow year 4 | 2,160,000.00 |
| Inflow year 5 | 2,450,000.00 |
| WACC | ? |
2-a. What are the WACC (restated from Part 1), NPV, IRR, and payback years of this project? (Negative values should be entered with a minus sign. All answers should be entered rounded to 2 decimal places. Your answers for WACC and IRR should be whole percentages (e.g. .3555 should be entered as 35.55).)
| WACC (from Part 1) | |
| NPV | |
| IRR | |
| Payback Method | |
2-b. Shall the company accept or reject this project based on the outcome using the net present value (NPV) method?
