Problem 19-16 APV Digital Organics (DO) has the opportunity to invest $1.09 mill

Question

Problem 19-16 APV Digital Organics (DO) has the opportunity to invest $1.09 million now (t 0) and expects after-tax returns of $690,000 in t 1 and $790,000 in t 2. The project will last for two years only. The appropriate cost of capital is 10% with all-equity financing, the borrowing rate is 6%, and DO will borrow $390,000 against the project. This debt must be repaid in two equal installments. Assume debt tax shields have a net value of 0.35 per dollar of interest paid. Calculate the project's APV. (Do not round intermediate calculations. Rounddown your awe to the nearest whole dolar-) Adjusted present value

Explanation / Answer

NPV of Unlevered Cash Flows Year Cash Flow PV Discount Factor @ 10% Present Value 0 -$1,090,000 1 -$1,090,000 1 $690,000 0.90909 $627,272.73 2 $790,000 0.82645 $652,892.56 NPV $190,165.29 PV of Tax Shields Year Borrowing Interest 6% Tax = $0.35 per dollar of interest paid PV Discount Factor @ 6% Present Value 1 $390,000 $23,400 $8,190 0.9434 $7,726.42 2 $195,000 $11,700 $4,095 0.8900 $3,644.54 PV of Tax Shields $11,370.95 APV = NPV of Unlevered Cash Flows + PV of Tax Shields APV = $190,165.29 + 7507.74 $201,536.24

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