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Digital Organics (DO) has the opportunity to invest $1.15 million now (t = 0) and expects...

Digital Organics (DO) has the opportunity to invest $1.15 million now (t = 0) and expects after-tax returns of $730,000 in t = 1 and $830,000 in t = 2. The project will last for two years only. The appropriate cost of capital is 11% with all-equity financing, the borrowing rate is 7%, and DO will borrow $270,000 against the project. This debt must be repaid in two equal installments of $135,000 each. Assume debt tax shields have a net value of $0.20 per dollar of interest paid. Calculate the project’s APV. (Enter your answer in dollars, not millions of dollars. Do not round intermediate calculations. Round your answer to the nearest whole number.)

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Expert Solution

Answer : Calculation of Project's APV :

Adjusted present Value = Present Value of Net Cash Flows + Present value of Interest Tax Shield

Present Value of Net Cash Flow = Present Value of Cash Inflow - Present Value of Cash outflow

Below is the table showing Present Value of Cash Inflow

Year Cash Flows PVF @11% Present Value of Cash Flows
1 730000 0.900900901 657657.6577
2 830000 0.811622433 673646.6196
Present Value of Cash Flows 1,331,304.277

Present Value of Net Cash Flow = 1,331,304.277 - 1,150,000

= 181,304.2773

Calculation of Present value of Interest Tax Shield :

Below is the table showing Calculation of Present value of Interest Tax Shield :

Year Debt Amount Interest Interst tax Shield PVF @11% Present Value of Interest Tax Shield
(Debt Amount * 7%) (Interest * 0.2)
1 270000 18900 3780 0.900900901 3405.405405
2 135000 9450 1890 0.811622433 1533.966399
Present Value of Interest Tax Shield 4939.371804

Adjusted present Value = Present Value of Net Cash Flows + Present value of Interest Tax Shield

Adjusted present Value = 181,304.2773 + 4939.371804

= 186,244

Note : PVF can be calculated as [1 / (1 + 0.11)^n] put n as 1 and 2

jeff jeffy answered 2 years ago
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