ABC plc is financed by both debt and equity. Its cost of equity is 12% and the cost of debt 8% and its weighted average cost of capital is 10.5%. The company pays out all its profits as dividends and this is equal to £5m each year.
The company wishes to enter a new project which will return £2m each year before interest charges. The project will cost £6m and will be financed using debt at a rate of 8%. If ABC plc enters into the project the cost of equity will increase to 14%.
Please answer the following 3 questions and show all the working steps and calculations clearly.
Question 1: What is the value of the new dividend that will be paid? (6 marks)
Question 2: What is the value of equity if ABC plc takes on the new project? (8 marks)
Question 3: What is the NPV of the new project? (6 marks)