1. QDai for FEUNL Finanças December 5

2. QDai for FEUNL Topics covered  An example of APV  Beta and leverage

3. QDai for FEUNL APV Example:  A firm is considering replacing a $5 million piece of equipment. The initial expense will be depreciated straight- line to zero salvage value over 5 years;  The project will generate pretax savings of $1,500,000 per year, and not change the risk level of the firm.  The firm can obtain a 5-year $3,000,000 loan at 12.5% to partially finance the project.  If the project were financed with all equity, the cost of capital would be 18%.  The corporate tax rate is 34%.  The risk-free rate is 4%.  The project will require a $100,000 investment in net working capital.  Calculate the APV.

4. QDai for FEUNL APV Example: APV =

5. QDai for FEUNL APV Example: Cost The cost of the project is

6. QDai for FEUNL APV Example: PV unlevered project PV unlevered project

7. QDai for FEUNL Beta and Leverage  Recall that an asset beta would be of the form:

8. QDai for FEUNL Beta and Leverage Riskless debtRisky debt Without corp tax With corp tax

9. QDai for FEUNL Beta and Leverage: with Corp. Taxes  In a world with corporate taxes, and riskless debt

10. QDai for FEUNL Beta and leverage: Example  A firm considers to invest $1 million in a new project.  The projct is expected to bring a perpetual unlevered after-tax cash flow of $300,000 a year.  The target debt to equity ratio for this project is 1.  The three competitors in the same industry have unlevered betas of 1.2, 1.3, 1.4.  The risk free rate is 5%. The market premium is 9%.  The corporate tax rate is 34%.  What is the NPV of the project?

11. QDai for FEUNL Beta and leverage: Example 1. Average unlevered beta: 2. Levered beta: 3. Cost of levered equity R s

12. QDai for FEUNL Beta and leverage: Example 4. R wacc 5. NPV