Reference no: EM132816224
AWS is contemplating setting up a manufacturing plant to produce a new line of radar systems. This is a five-year project. The company bought some land three years ago for $4.5 million in anticipation of using it for waste chemicals. If the land were sold today, the net proceeds would be $5.5 million after taxes. In five years, the land will be worth $5.8 million after taxes. The company wants to build its new manufacturing plant on the land; The plant will cost $21.2 million to build.
AWS carries 60,000 bonds with 6.2% coupon rate outstanding. The bonds have 25 years to maturity, selling for 98% of par. The bonds have a $1000 par value each and make semiannual payments. AWS's current beta is 1.15. AWS has 1,350,000 common stock shares outstanding, selling for $97 per share. AWS has 90,000 shares of 5.7% preferred stock outstanding. The preferred stock has a par value of $100, selling for $95 per share.
Currently, market conditions are such that the t-bond rate is 3.8%, and the expected market risk premium is 5.0%.
AWS's tax rate is 25%. The project requires $825,000 in initial net working capital investment to get operational. All net working capital is recovered at the end of the project. AWS uses straight-line depreciation. At the end of year 5, the plant can be scrapped for $2.4 million. For this plant, AWS will incur $3.6 million in annual fixed costs. The plan is to manufacture 13,500 system per year and sell them at $10,800 per machine; the variable production costs are $9,000 per machine. Should AWS build this manufacturing plant?
What is the required return if AWS makes the investment?
What is the expected value of the investment?