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The Cactus Pillow company has an investment opportunity that will last for 4 years. The project will require $2,300 of new fixed assets to implement. These fixed assets will be depreciated on a straight-line basis over 6 years. Inventory will need to increase by $500 and accounts payable will increase by $200 when this project begins. This project is expected to produce sales of $950 in the first year and sales are expected to grow at a rate of 6% per year for the remaining life of the project. Total expenses (including depreciation) is expected to be 65% of sales. At the end of 4 years the project will terminate. The fixed assets are projected to be sold for $700 and inventory and accounts payable will return to their pre-project levels. Cactus' tax rate is 21%.
Cactus has $750 of debt outstanding with a YTM of 7% and 1,400 shares of common stock outstanding. The common stock has a market price of $1/share and a cost of 14%.
What is Cactus' Weighted average cost of capital? What are the annual cash flows associated with this project? What is the project's NPV? Should Cactus take on this project? Why?
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