Laramie Labs uses a risk-adjustment when evaluating projects of different risk. Its overall (composite) WACC is 10%, which reflects the cost of capital for its average asset. Its assets vary widely in risk, and Laramie evaluates low-risk projects with a risk-adjusted project cost of capital of 8%, average-risk projects at 10%, and high-risk projects at 12%. The company is considering the following projects:
Project
Risk
Expected Return
A
High
15%
B
Average
12%
C
High
11%
D
Low
9%
E
Low
6%
Which set of projects would maximize shareholder wealth?
a.
A and B.
b.
A, B, C, and D.
c.
A, B, C, D, and E.
d.
A, B, and D.3 years, but it would have a positive pre-tax salvage value at the end of Year 3, when the project would be closed down. Also, some new working capital would be required, but it would be recovered at the end of the project's life. Revenues and other operating costs are expected to be constant over the project's 3-year life. What is the project's NPV?
Project cost of capital (r)
10.0%
Net investment in fixed assets (depreciable basis)
$70,000
Required new working capital
$10,000
Straight-line deprec. rate
33.333%
Sales revenues, each year
$75,000
Operating costs (excl. deprec.), each year
$30,000
Expected pretax salvage value
$5,000
Tax rate
35.0%
a.
$23,005
b.
$25,363
c.
$24,155
d.
$20,762choose to do so, but to obtain this abandonment option, it would have to make a payment to those parties. How much is the option to abandon worth to the firm?
a.
$61.03
b.
$55.08
c.
$67.29
d.
$64.08