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A proposed project lasts 3 years and has an initial investment of $500,000. The after tax cash
flows are estimated at $120,000 for year 1, $240,000 for year 2, and $240,000 for year 3. The
firm has a target debt/equity ratio of 0.6. The firm’s cost of equity is 15% and its cost of debt is
8%. The tax rate is 35%. What is the NPV of this project? (hint: remember that the D/E is
saying that debt is 60% of equity. In other words, you need to find D/A and E/A for the
appropriate weights using the formulas:
D/E/(1+ D/E) =% or weight of debt and 1/(1+D/E) = % or weight of equity.)

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NPV of the proposed project is ($24,600) as calculated below
Target debt equity ratio = 0.6
If debt is 0.6, equity is 1
Therefore, total capital is 0.6+1 = 1.6
Weight of debt = debt/ total capital...

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