Peter Johnson, the CFO of Homer Industries, Inc is trying to determine the Weighted Cost of Capital (WACC) based on two different capital structures under consideration to fund a new project. Assume the company’s tax rate is 30%. Component Scenario 1 Scenario 2 Cost of Capital Tax Rate Debt $5,000,000.00 $2,000,000.00 8% 30% Preferred Stock 1,200,000.00 2,200,000.00 10% Common Stock 1,800,000.00 3,800,000.00 13% Total $8,000,000.00 $8,000,000.00 1-a. Complete the table below to determine the WACC for each of the two capital structure scenarios. (Enter your answer as a whole percentage rounded to 2 decimal places (e.g. .3555 should be entered as 35.55).) 1-b. Which capital structure shall Mr. Johnson choose to fund the new project? Scenario 1 Scenario 2
Peter Johnson, the CFO of Homer Industries, Inc is trying to determine the Weighted Cost of Capital (WACC) based on two different capital structures under consideration to fund a new project. Assume the company’s tax rate is 30%.
Component
Scenario 1
Scenario 2
Cost of Capital
Tax Rate
Debt
$5,000,000.00
$2,000,000.00
8%
30%
Preferred Stock
1,200,000.00
2,200,000.00
10%
Common Stock
1,800,000.00
3,800,000.00
13%
Total
$8,000,000.00
$8,000,000.00
1-a. Complete the table below to determine the WACC for each of the two capital structure scenarios. (Enter your answer as a whole percentage rounded to 2 decimal places (e.g. .3555 should be entered as 35.55).)
1-b. Which capital structure shall Mr. Johnson choose to fund the new project?
Scenario 1
Scenario 2
Part 2
Assume the new project’s operating cash flows for the upcoming 5 years are as follows:
Project A
Initial Outlay
$ -8,000,000.00
Inflow year 1
1,020,000.00
Inflow year 2
1,850,000.00
Inflow year 3
1,960,000.00
Inflow year 4
2,370,000.00
Inflow year 5
2,550,000.00
WACC
?
2-a. What are the WACC (restated from Part 1), NPV, IRR, and payback years of this project? (Negative values should be entered with a minus sign. All answers should be entered rounded to 2 decimal places. Your answers for WACC and IRR should be whole percentages (e.g. .3555 should be entered as 35.55).)
2-b. Shall the company accept or reject this project based on the outcome using the net present value (NPV) method?
Project A should be accepted
Project A should be rejected
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