The Cary Company is considering a new investment that costs $10,000. It will last five years and has no salvage value.
The project would save $3,000 in salaries and wages each year and would be financed with a loan with interest costs of 15% per year and amortization costs (repayment of principal on the loan) of $2,000 per year.
If the firm’s tax rate is 40% and its after- tax cost of capital is 20%, what is the net present value of the project? (Note: The annuity factor for five years at 20% is 2.991.)
(ii) Briefly explain the concepts of cost of capital, cost of debt and cost of equity.