Answer Happy

The Chief Finance Officer (CFO) of Adelpha Ltd, a UK-based
manufacturer of small consumer goods, asks you to provide a report
for the board concerning a new product line. The new line has a
lifespan of 10 years, and the CFO hopes that it will contribute
substantially to strengthening the firm's balance sheet. Currently,
Adelpha has assets worth £40m.
The table below sets out the known details of the firm's
balance sheet:
Value
Cost of capital
Total assets
£40m
12%
Debt
£30m

6%
Equity
£10m

?
The market data available are as
follows:
The risk-free rate of return

3%
The average return on the market index 7%
The investment project's data are as
follows:
The project's investment cost £30m
The tangible part of the investment (equipment) £20m
Annual depreciation of equipment £2m
The expected resale value of equipment in year 10
£4m New equity issued £25m
New debt issued £5m
The annual revenue flow year 1 through 10 £6.5m
The annual cost year 1 through 10 £1.5m
The beta-risk of the project 1.5 T
he beta-risk of total debt after the issue 0.4
Your report should address the following questions:
a) What is the cost of capital for the project? (5
marks)
b) What is the net present value of the investment? (20
marks)
c) What is the new cost of capital for the company after the
investment? (10 marks)
d) What is the cost of equity capital before and after the
investment? (15 Marks)