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The Ali-baba Oil Company has ongoing two projects called "Oil Rigs" and "Special Drills". Project "Oil Rigs" employs equal distribution of debt and equity. Equity is also equally distributed amongst preferred and common stock. Project "Specialty Drills" 30% debt, 50% common stock and remainder for preferred stock. The total capital employed for both projects are same of $30000000.
For both projects at present, preferred stock can be sold yielding 17%. The current borrowing rate of both projects is 12 percent, and the company's tax rate is 40 percent. The company has thought about using the capital-asset pricing model in this regard. It has identified two samples with modal value beta of 0.8for Oil Rigs and Beta 2.2for Special Drills. The risk-free rate is currently 14 percent and the expected return on the market portfolio 20 percent.
Required:
a. Calculate required rate of return of equity of Oil Rigs and Special Drills.
b. Calculate Weighted Average Cost of Capital of Oil Rigs and Special Drills.
c. Calculate Economic Value Added if the net profit after taxes of Oil Rigs and Special Drills for both projects were $25000000.
d. Based on analysis in which project the Ali-baba Company should go for investment.
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