In: Finance
Daniel Kaffe, CFO of Kendrick Enterprises, is evaluating a 10-year, 7.3 percent loan with gross proceeds of $5,250,000. The interest payments on the loan will be made annually. Flotation costs are estimated to be 1.1 percent of gross proceeds and will be amortized using a straight-line schedule over the 10-year life of the loan. The company has a tax rate of 34 percent, and the loan will not increase the risk of financial distress for the company. |
a. |
Calculate the net present value of the loan excluding flotation costs. (Do not round intermediate calculations and round your answer to 2 decimal places, e.g., 32.16.) |
Net present value | $ |
b. |
Calculate the net present value of the loan including flotation costs. (Do not round intermediate calculations and round your answer to 2 decimal places, e.g., 32.16.) |
Net present value |
$ |
Part A
If flotation costs are not taken into account, the net present value of a loan equals:
NPVLoan = Gross Proceeds - After-tax PV of interest - After-tax PV of principal payments
NPVLoan = 5,250,000 - 0.073 * (5,250,000) * (1 - 0.34) * PVIFA(7.3%,10) - 5,250,000/1.0810
NPVLoan = 1,066,033.58
Part B
The flotation costs of the loan will be:
Flotation costs = 5,250,000 * (.011)
Flotation costs = 57,750
So, the annual flotation expense will be:
Annual flotation expense = 57,750/ 10
Annual flotation expense = 5,775
If flotation costs are taken into account, the net present value of a loan equals:
NPVLoan = Proceeds net of flotation costs - After-tax PV of interest - After-tax PV of principal payments + Present value of the flotation cost tax shield
NPVLoan = (5,250,000 - 57,750) - 0.073 * (5,250,000) * (1 - 0.34) * PVIFA(7.3%,10) - 5,250,000/1.0810 + 5,750 * (0.34) * PVIFA(7.3%,10)
NPVLoan = 1,021,826.26