Casper's is analyzing a proposed expansion project that is much riskier than the firm's current operations. Thus, the project will be assigned a discount rate equal to the firm's cost of capital plus 2.5 percent. The proposed project has an initial cost of $18.1 million that will be depreciated on a straight-line basis to a zero book value over 20 years. The project also requires additional inventory of $428,000 over the project's life. Management estimates the facility will generate cash inflows of $2.46 million a year over its 20-year life. After 20 years, the company plans to sell the facility for an aftertax amount of$1.4 million. The company has 58,000 shares of common stock outstanding at a market price of $52 a share. This stock just paid an annual dividend of $2.84 a share. The dividend is expected to increase by 3.6 percent annually. The firm also has 15,000 shares of 9 percent preferred stock with a market value of $87 a share. The preferred stock has a par value of $100. The company has $1.2 million of face value bonds with semiannual payments and a coupon rate of 9 percent. The bonds are currently priced at 102 percent of face value and mature in 13 years. The tax rate is 35 percent. Should the firm pursue the expansion project at this point in time? Why or why not?
Accept; The NPV is $2.6 million.
Accept; The NPV is $1.0 million.
Reject; the NPV is -$3.2 million.
Reject; the NPV is -$3.0 million.
Reject; the NPV is -$1.4 million.