Question

Doubleday Brewery is considering a new project. The company currently has a target debt–equity ratio of .40, but the industry target debt–equity ratio is .25. The industry average beta is 1.08. The market risk premium is 8 percent, and the (systematic) risk-free rate is 2.4 percent. Assume all companies in this industry can issue debt at the risk-free rate. The corporate tax rate is 21 percent. The project will be financed at Doubleday’s target debt–equity ratio. The project requires an initial outlay of $5,400,000 and is expected to result in a $440,000 cash inflow at the end of the first year. Annual cash flows from the project will grow at a constant rate of 4.0 percent until the end of the eighth year before leveling off at that same annual level (no longer growing) forever thereafter. Using the WACC methodology, value this project and tell whether it should be pursued.

Answer 1