Casino Glory Inc., an all equity firm, manufactures “lucky blazers” to assist those wanting an extra edge when pursuing gambling activities. The company is considering expanding into the “lucky silk scarves” market. The proposed expansion would require the following:
• Targeted door to door marketing, flyer distribution and other public relation efforts estimated to be $100,000 annually irrespective of sales volume.
• Fixed costs of $80,000 annually.
• Variable costs are estimated at $1 per scarf.
• Purchase of a new machine costing $200,000 with an expected life span of 5 years (zero terminal value).
• Each of the scarves will be sold at a price of $25. Casino Glory’s Equity Beta is 1.6. The market risk premium is 5% and the risk free rate is 2%. The corporate tax rate is 20% and the company uses straight line depreciation to a zero salvage.
a. What are the cost of equity capital and weighted average cost of capital for the new project?
b. What is the present value break-even sales volume of the new project?
c. What is the accounting profit break-even sales volume of the new project?