Corporate Finance Report: WACC, NPV, APV Analysis and Evaluation

This report provides a comprehensive analysis of key financial concepts, including the Weighted Average Cost of Capital (WACC), Net Present Value (NPV), and Adjusted Present Value (APV). The report begins with a calculation of WACC, considering the cost of equity and the cost of debt, and then it proceeds to evaluate a project using NPV, demonstrating its application in investment decision-making. The report further discusses the advantages and disadvantages of WACC, risk-adjusted WACC, and APV approaches. The report highlights the importance of these tools in evaluating investment opportunities and managing capital structure, and it concludes with a discussion on the practical applications of these methods in business. References to relevant financial literature are included to support the analysis.

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Corporate Finance

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Table of Contents
Question 1..................................................................................................................................3
a).............................................................................................................................................3
b)............................................................................................................................................3
c).............................................................................................................................................4
References..................................................................................................................................5

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Question 1
a)
Calculation of risk-adjusted WACC
For this purpose, the unlevered beta will be calculated and the formula for the same is:
=1.2/1+(1-0.20)*(1/2)
= 1.2/1.4
= 0.857
The beta will now be relevered using the current capital structure and for that formula is:
= 0.857 * ((1+(1-0.20) * 0.70/0.30)
=0.857 * 2.867
= 2.457
The cost of equity is calculated by using the capital asset pricing model and that is as follows:
CAPM = Rf + b(Rm-Rf)
Ke = 2+2.457 (6-2)
Ke = 11.828%
WACC = (we*Ke) + (Wd * Kd(1-t))
WACC = (0.30*11.828) + (0.7 * 2(1-.20))
WACC = 3.548 + 1.12
WACC = 4.668 or 4.68%
b)
Year Cash PVF PV

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flow @
4.68%
0 -20 1 -20
1 0.96 0.96 0.92
2 34.19 0.91 31.20
NPV 12.12
The NPV which is derived is positive and hence the project will be accepted.
c)
The weighted average cost of capital is used in the business and the main advantage of the
same is the easy process to calculate the same. With the help of this easy decision making
will be made and this is the single rate for all the projects (Krüger, Landier and Thesmar,
2015). The demerit of the same is due to the inability to manage the capital structure. The
current market cost of capital is involved which is difficult to be identified.
The risk-adjusted WACC is calculated and this is beneficial as in this the rate is adjusted with
the risk involved in the industry (Lee and Li, 2012). This will help in evaluating the project in
a more realistic manner. The calculation involved in this is highly complex and that is the
main disadvantage of this approach.
The adjusted present value approach is used to ascertain the net present value and this is
beneficial as in this there is a step by step approach by which proper understanding is
obtained. This helps in evaluating various projects which are available. In this, it is assumed
that debt is risk-free and that is the main disadvantage of using this method.
They all are used in the business so that the various available options for the investment can
be considered.

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References
Krüger, P., Landier, A. and Thesmar, D. (2015) The WACC fallacy: The real effects of using
a unique discount rate. The Journal of Finance, 70(3), pp.1253-1285.
Lee, B.S. and Li, M.Y.L. (2012) Diversification and risk-adjusted performance: A quantile
regression approach. Journal of Banking & Finance, 36(7), pp.2157-2173.

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