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    WACC, NPV, IRR, Compenent of Cost of Capital

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    Smelting Machine
    Probability Net Cash Flows per Year
    0.2 $14,100.00
    0.5 $16,000.00
    0.2 $17,000.00
    0.1 $20,000.00

    Paving Machine
    Probability Net Cash Flows per Year
    0.2 $2,000.00
    0.5 $16,000.00
    0.2 $22,000.00
    0.1 $33,000.00

    Each project has an expected life of 4yrs and will cost $45,000. Riskier project will be evaluated at company's WACC plus 3% and the less risky project will be evaluated at the company's WACC. Cosmo K has a capital structure of debt 30%, Preferred stock 16% and common stock 54%. Capital structure is current and consistent with company's objectives and so will be used to raise any new funds. New bonds will have a coupon rate of 13%. The company's common stock is currently selling for $65 per share, paid a dividend of $4.25 last year, and has expected growth rate of 6% indefinitely. There will be no floatation costs on new common stock. Preferred stock can be sold for $90 per share and pays a dividend of $10, with a floatation cost of $2 per share. Currently, the market risk premium is 5% and the risk-free rate is 8%. Cosmo K's beta coefficient is currently 1.23 and is expected to be consistent for the foreseeable future. The tax rate is expected to be 40% for the next decade.

    1. What is the component cost of capital for the company? Used calculations for CAPM
    2. What is the company's WACC?
    3. What are the expected cash flows for the investment?
    4. What is the standard deviation for each investment?
    5. What is the coefficient of variation for each investment?
    6. Given the above data, which investment has the higher risk?
    7. What is the expected net present value (NPV) for each investment?
    8. What is the internal rate of return (IRR) of the investments?
    9. Based on the decision rules for NPV and those for IRR, is there an acceptable project? Please explain.
    10. Is there a conflict between the two decision methods? Please explain.
    Please show work.

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    Solution Summary

    The solution computes cost of equity, cost of debt, cost of preferred stock, wacc for the company. As well as shows where investment should be based on NPV or IRR.