Question

Consider a project with free cash flow in one year of

$ 140 comma 416$140,416

or

$ 160 comma 440$160,440​,

with either outcome being equally likely. The initial investment required for the project is

$ 110 comma 000$110,000​,

and the​ project's cost of capital is

23 %23%.

The​ risk-free interest rate is

4 %4%.

​(Assume no taxes or distress​ costs.)

a. What is the NPV of this​ project?

b. Suppose that to raise the funds for the initial​ investment, the project is sold to investors as an​ all-equity firm. The equity holders will receive the cash flows of the project in one year. How much money can be raised in this

waylong dash—that

​is, what is the initial market value of the unlevered​ equity?  

c. Suppose the initial

$ 110 comma 000$110,000

is instead raised by borrowing at the​ risk-free interest rate. What are the cash flows of the levered​ equity, and what is its initial value according to​ M&M?

Answer 1

SEE THE IMAGE. ANY DOUBTS, FEEL FREE TO ASK. THUMBS UP PLEASE