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LimeAde, a large soft drink manufacturing firm, is faced with the decision of how much to pay out as dividends to its stockholders. It expects to have a net income of $1,000 (after depreciation of $500), and it has the following projects:
Project
Initial Investment
Beta
IRR (to Equity Inve
A
$500
2.0
21%
B
$600
1.5
20%
C
1.0
12%
The firm's beta is 1.5 and the current risk-free rate is 6 percent. The firm plans to finance net capital expenditures (Cap Ex - Depreciation) and working capital with 20 percent debt. The firm also has current revenues of $5,000, which it expects to grow at 8 percent.
Working capital will be maintained at 25 percent of revenues. How much should the firm return to its stockholders as a dividend?
Calculate the NPV and the annualized net present value (ANPV) for each project using the firm's cost of capital of 8%. Which project would you recommend?
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