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Pak Foods Ltd. is considering a project of new product line that requires the initial cost...

Pak Foods Ltd. is considering a project of new product line that requires the initial cost of Rs. 15 million. The company is considering to raise the capital from debt and equity financing (no preferred stock). The target capital structure is 60% equity and 40% debt. The interest rate on new debt is 8.00%, and the cost of equity is 15.00%, and the tax rate is 40%. The project has an economic life of 7 years and has the following projected cash flow data. Year 0 1 2 3 4 5 6 7__ Cash flows Rs. (15m) Rs.1.0m Rs.1.75m Rs.3.0m Rs.(4.5m) Rs.3.0m Rs.2.2m Rs.20m a) What is the weighted cost of capital (WACC)? (in calculation only round of the final value to two decimal points) b) What is the project's NPV? c) What is the project's IRR? d) Appraise the project using both NPV and IRR evaluation techniques

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Expert Solution

Calculation of WACC:

Particular Rate(in%) Weight Weighted Rate
Debt 4.8 0.4 1.92
Equity 15 0.6 9
WACC 10.92

Note Rate of debt hax been taken after tax i.e. 8*(1-.4)

Calculation of NPV:

Year Cash flow(in million) PV factor=1/(1.1092^n) PV=PV fac*CF
0 -15 1 -15
1 1 0.901550667 0.901550667
2 1.75 0.812793605 1.42238881
3 3 0.732774617 2.198323852
4 -4.5 0.660633445 -2.972850503
5 3 0.595594523 1.786783569
6 2.2 0.53695864 1.181309007
7 20 0.48409542 9.681908396
Net Present Value -0.800586201

As NPV is negative, project is not acceptable.

Calculation of IRR:

Year Cash flow(in million)
0 -15
1 1
2 1.75
3 3
4 -4.5
5 3
6 2.2
7 20
IRR 9.8784%

Note IRR has been calculated as follows:

As the IRR is lower than WACC, project is not acceptable.

jeff jeffy answered 1 year ago
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