Project Q involves purchase of machinery which will support production of a new
ID: 2631480 • Letter: P
Question
Project Q involves purchase of machinery which will support production of a new product. If the machine is purchased, we expect to sell 5,500 units per year for FOUR years at a price of $1275 per unit. Variable Costs to produce each unit are estimated to be $ 475. Fixed manufacturing and overhead costs are estimated at $635,000 per year.
The machinery will cost $1,325,000; which cost will be depreciated for TAX PURPOSES as a seven year MACRS asset. Company management believes that the machinery can be sold for $500,000 at the end of the project.
Producing the new product will require an initial (Yr0) investment in Net Working Capital (NWC) of $ 1,100,000. During the project life annual NWC requirements are expected to be 25% of Sales. The company expects to recover 60% of its NWC project investments at the end of the project.
Assume a 40% aggregate tax rate and a required rate of return of 20%. Should the company undertake this project?
Prepare a Depreciation Schedule:
Yr Depreciation Expense Book Value
1
2
3
4
Prepare projected Annual Income Statements:
Yr1 Yr2 Yr3 Yr4
Sales
VC
FC
EBITDA
Depn
EBIT
Taxes @ 40%
NI
Explanation / Answer
as the npv is positive the project should be taken.
Answer to 1) Depreciation schedule Yr Depreciation expense Book value 0 1325000 1 189342.5 1135657.5 0.1429 2 324492.5 811165 0.2449 3 231742.5 579422.5 0.1749 4 165492.5 413930 0.1249 Profit on sales book value 413930 Less : salvage value -500000 Profit on sales -86070 Tax on profit -34428 Net proceeds from sale = 500000 - 34428 = 465572 Answer to 2) Projected annual income statement year 1 2 3 4 sales 7012500.00 7012500.00 7012500.00 7012500.00 less : VC -2612500.00 -2612500.00 -2612500.00 -2612500.00 FC -635000.00 -635000.00 -635000.00 -635000.00 EBITDA 3765000.00 3765000.00 3765000.00 3765000.00 Depn -189342.50 -324492.50 -231742.50 -165492.50 EBIT 3575657.50 3440507.50 3533257.50 3599507.50 Taxes @ 40% -1430263.00 -1376203.00 -1413303.00 -1439803.00 NI 2145394.50 2064304.50 2119954.50 2159704.50 Add : depreciation 189342.50 324492.50 231742.50 165492.50 Net cash inflow 2334737.00 2388797.00 2351697.00 2325197.00 Net working capital reqd 1753125 1753125 1753125 1753125 Net working capital invested -1100000 -1753125 -1753125 -1753125 Additional reqd 653125 0 0 0 Cash flow statement year Dcf@20% NPV 0 investment -1325000 1 -1325000.00 0 working capital -1100000 1 -1100000.00 1 additional working capital -653125 0.83 -544270.83 1 Net cash inflow post tax 2334737 0.83 1945614.17 2 2388797 0.69 1658886.81 3 2351697 0.58 1360935.76 4 2325197 0.48 1121333.43 4 working capital recovered 1051875 0.48 507269.97 4 salvage recovered - post tax 465572 0.48 224523.53 3849292.83Related Questions
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