Question

Ramblin Wreck is a firm specializing in engineering components. The firm is publicly traded and is considering the following project:

The project will last 5.00 years with an annual cash flow of $40.00 million. The project will require an initial investment of $140.00 million

The firm must determine the cost of capital to evaluate the project. (The project is within the firm’s normal activities)

Ramblin Wreck, Inc. Financial Data:

STOCK DATA:		BOND DATA:
Current Price Per Share	$28.00	Current Price Per Bond	$938.00
# of Shares	2.00 million	# of bonds	20,000.00
Book Value	$50 million	Annual Coupon Rate	8.00%
		Face Value Per Bond	$1,000
		Maturity	10 years

The risk free rate in the economy is currently 2.00%, while investors have a market risk premium of 7.00%. Ramblin Wreck, Inc. has a beta of 1.50. The tax rate is 40.00%.

a. What is the yield to maturity on Ramblin Wreck, Inc. bonds?

b. What is the cost of equity?

c. What is the weight in debt for the project?

d. What is the WACC for the project?

e. What is the NPV of the project? (express in millions, so 1000000 would be 1.00)

Answer 1

a) interest = 1000*.08= 80

Yield to maturity = [Interest + (face value - price)/years ]/[(face value + price)/2]

        =[80+ (1000-938)/10]/[(1000+938)/2]

       =[80+ 6.2]/969

     = 8.90%    (using financial calculator it is 8.96%]

b)cost of equity = Risk free rate+ [Beta *market rik premium]

                 = 2+ [1.5 *7]

                = 2 + 10.5

               = 12.5%

c)Weight of debt: 25.0936%

	market value	market value weight
Debt	20000*938= 18760000	18760000/74760000= 25.0936%
equity	2000000*28= 56000000	56000000/74760000= .749064 or 74.9064%
	74760000	100%

d)

	cost	weight	cost* weight
After tax debt	8.96(1-.40)= 5.376	25.0936%	1.35
equity	12.5	74.9064%	9.36
	WACC		10.71%