Separating Investment and Financing
Your firm is considering a project that will require an upfront investment of $10 million today and will produce $12 million in cash flow for the firm in one year without risk. Rather than pay for the $10 million investment entirely using its own cash, the firm is considering raising additional funds by issuing a security that will pay investors $5.5 million in one year. Suppose the risk-free interest rate is 10%. Is pursuing this project a good decision without issuing the new security? Is it a good decision with the new security?