You are a consultant who has been hired to evaluate a new product line for Markum Enterprises. The upfront investment required to launch the product is $6 million. The product will generate free cash flow of $700,000 the first year, and this free cash flow is expected to grow at a rate of 6% per year. Markum has an equity cost of capital of 11.3%, a debt cost of capital of 6.28%, and a tax rate of 32%. Markum maintains a debt-equity ratio of 0.70.
a. What is the NPV of the new product line (including any tax shields from leverage)?
b. How much debt will Markum initially take on as a result of launching this product line?
c. How much of the product line’s value is attributable to the present value of interest tax shields?
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