Reference no: EM133079581

Question - Weighted Average Cost of Capital and Net Present Value Analysis - Tate Company is considering a proposal to acquire new equipment for its manufacturing division. The equipment will cost $222,000, be useful for four years, and have a $19,000 salvage value. Tate expects annual savings in cash operating expenses (before taxes) of $75,000. For tax purposes, the annual depreciation deduction will be $74,000, $99,400, $32,400, and $16,200, respectively, for the four years (the salvage value is ignored on the tax return). The income tax rate is 40%.

Tate establishes a hurdle rate for a net present value analysis at the company's weighted average cost of capital plus 1 percentage point. Tate's capital is provided in the following proportions: debt, 60%; common stock, 20%; and retained earnings, 20%. The cost rates for these capital sources are debt, 10%; common stock, 12%; and retained earnings, 13%.

Required -

a. Compute Tate's (1) weighted average cost of capital and (2) hurdle rate.

b. Using Tate's hurdle rate, compute the net present value of this capital expenditure proposal.