Blue Lakes is considering a new project costing $180 million. The investment cost of $180 million will be depreciated straight line over the next 20 years. Part of the cost of the project will be financed with a new bond issue. Blue Lakes will issue for $120 million a bond having a face value equal to $120 million which carries 20 annual coupon payments equal to 5% of face value. In addition to the coupons, the debt obligation calls for payment of the face value of $120 million at year 20. The project generates EBIT with an expected value of $20 million for each of the next twenty years, commencing one year after the start of the project. The CFO believes that the debt obligation will be fulfilled with probability ONE, implying that debt is risk-free. The EBIT of the project does vary with the market, with the implied unlevered asset beta equal to 1.25. The expected return on the market is 13% and the risk-free rate is 5%. The current corporate tax rate is 25%. The CFO asks you to evaluate the project using APV.

a) What are the expected annual after-tax Unlevered Cash Flows associated with the project? (per year) b) What is the discounted value (PV) of the after-tax Unlevered Cash Flow stream?

c) What is the value of the Debt Tax Shield associated with this project?

d) What is the projects APV? Should Blue Lakes invest?

e) Change the assumptions. Suppose all you know about debt is that it has market value of $120 and issued in long-term. (tax rate remains the same). Can you estimate the tax shield value?