Your company is considering a project (expanding its household product division). Your company is a private company and there are no securities issued and traded in public financial markets. Assume that the project will be 100% equity financed. The initial investment would be 10 million dollar and free cash flows (FCF) for next four years are estimated. Tax rate is 40%.
o FCF at t=1: 3 million
o FCF at t=2: 4 million
o FCF at t=3: 4 million
o FCF at t=4: 6 million
You need to estimate the cost of capital for the project and perform a NPV analysis to evaluate this project. You have the following information.
You found a comparable company in the same line of business, which is also 100% equity financed. Risk free rate = 3%, market risk premium = 5%, and estimated beta of this comparable company is 0.83
You found a comparable company in the same line of business, but the comparable company has a debt (30% of leverage ratio). Cost of equity = 6% and cost of debt is 4%
This solution estimates the net present value of a capital project given an estimate of cost of capital based on a comparable company with all formulas and workings shown in an excel file.