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Estimate the cost of the working capital investment

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Reference no: EM132940401

Question - The Remos Adhibe Company (RA Co) considers an investment project. The table below sets out the details of the project:

Annual sales £15m

Annual variable costs £5m

Annual fixed costs £2m

Annual depreciation £1m

Investment cost £50m

Working capital 30% of annual sales

The beta of the future cash flow 1.3

The duration of the project Ten years

The risk-free interest rate is 3%, and the average return of the market index is 7%. The corporate and investor tax rates are zero. The RA Co currently has a debt/equity ratio of 1 and a weighted average cost of capital (WACC) of 7%.

Required -

a. What is the cost of capital of the investment?

b. Estimate the cost of the working capital investment.

c. Estimate the net present value of the project. Is the project desirable?

d. Carry out a sensitivity analysis with a plus/minus 10% change in the quantity of goods/services sold during the project's lifespan. Interpret the output of the sensitivity analysis.

e. Discuss the concepts of competitive advantage and economic rent and how they could help decide to go ahead with the project.

Reference no: EM132940401

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