Your firm is planning to invest in an automated packaging plant. Harburtin Industries specializes in...
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Your firm is planning to invest in an automated packaging plant. Harburtin Industries specializes in this business and you have decided to use Harburtin as a comparable company. All Harburtins investments are financed with 50% equity and 50% debt. Suppose Harburtins equity beta is 0.85 and debt beta is 0. The risk-free rate is 4%, and the market risk premium is 5%.
a) If your firms project is all equity financed, estimate its cost of capital.
You decided to look for other comparables to reduce estimation error in your cost of capital estimate. You find a second firm, Thurbinar Design, which is also engaged in a similar line of business. Thurbinar has a stock price of $20 per share, with 15 million shares outstanding. The book value of Thurbinars stocks is $250 million. It also has $100 million in outstanding debt. Thurbinars equity beta is 1.00 and debt beta is 0. The risk-free rate is 4%, and the market risk premium is 5%.
b) If you decide to finance your firms investments with 30% equity and 70% debt, what is the unlevered cost of capital for your new investments?
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