Problem
A financial consultant to Mega Electronics Inc. (MEI), a large, publicly traded firm. The company is looking at setting up a manufacturing plant overseas to produce a line of New Electronic Device (NED). This will be a five-year project. The initial cost of this plant will be $47 million. rate is 37%:
Debt: 210,000 6.4% coupon bonds outstanding, 25 years to maturity, selling for 107% of par; the bonds have a $1,000 par value each and make semiannual payments
Common Stock: 8.3 million shares outstanding, selling for $68 per share; the beta is 1.2
Preferred Stock: 450,000 shares of 4.5% preferred stock outstanding have a par value of $100, selling for $81 per share
Market: 7% expected market risk premium; 3.45 % risk-free rate
What would be the required rate of return or cost of capital for this project if you categorize this a s a "very high risk" one and adjust WACC of MEI by 7.5%?
Why do some projects that are financed by equity only turn out to be worthy if financed by partly debt? Explain in detail using concepts discussed on APV and financial leverage.