A new annular die process is to be installed for extruding pipes, tubes, and tubular films. The phase I installed price for the dies and machinery is $2,000,000. The manufacturer has not decided how...

A new annular die process is to be installed for extruding

pipes, tubes, and tubular films. The phase I

installed price for the dies and machinery is

$2,000,000. The manufacturer has not decided

how to finance the system. The WACC over the

last 5 years has averaged 9.5% per year.

(a) Two financing alternatives have been defined.

The first requires an investment of 40%

equity funds at 9% and a loan for the balance

at an interest rate of 10% per year. The second

alternative requires only 25% equity

funds and the balance borrowed at 10.5% per

year. Which approach will result in the

smaller average cost of capital?

(b) Yesterday, the corporate finance committee

decided that the WACC for all new projects

must not exceed the 5-year historical average

of 9.5% per year. With this restriction, what

is the maximum loan interest rate that can be

incurred for each of the financing alternatives?