You have the following information about Constance Security, a lock manufacturer:
|
Equity Shares Outstanding |
10 million |
|
Stock price per share |
$20.00 |
|
Yield to maturity on debt |
8.00% |
|
Book value of interest bearing debt |
$135 million |
|
Coupon interest rate on debt |
6.00% |
|
Market value of debt |
$130 million |
|
Book value of equity |
$80 million |
|
Cost of equity capital |
12% |
|
Tax rate |
40% |
Constance is contemplating an average risk investment costing $15 million that promises an annual after tax cash flow of $2 million in perpetuity. a. What is the internal rate of return on the investment? Hint: Use the perpetuity equation from Chapter 7’s DCF discussion. b. What is Constance%u2019s weighted average cost of capital? c. If undertaken, would you expect this investment to benefit shareholders? Why or Why not?