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Zoso is a rental car company that is trying to determine whether to add 25 cars to its fleet. The company fully depreciates all its rental cars over six years using the straight-line method. The new cars are expected to generate $160,000 per year in earnings before taxes and depreciation for six years. The company is entirely financed by equity and has a 40 percent tax rate. The required return on the company’s unlevered equity is 13 percent, and the new fleet will not change the risk of the company. The risk-free rate is 7 percent.
a. What is the maximum price that the company should be willing to pay for the new fleet of cars if it remains an all-equity company? (Do not round intermediate calculations and round your answer to 2 decimal places, e.g., 32.16.) Maximum price $
b. Suppose the company can purchase the fleet of cars for $530,000. Additionally, assume the company can issue $460,000 of six-year debt at the risk-free rate of 7 percent to finance the project. All principal will be repaid in one balloon payment at the end of the sixth year.
What is the adjusted present value (APV) of the project? (Do not round intermediate calculations and round your answer to 2 decimal places, e.g., 32.16.)
What does the term "risk mean in the context of capital budgeting; to what extent can risk be quantified; and, when risk is quantified,
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