Consider a project to supply Detroit with 30,000 tons of machine screws annually
ID: 2645404 • Letter: C
Question
Consider a project to supply Detroit with 30,000 tons of machine screws annually for automobile production. You will need an initial $4,400,000 investment in threading equipment to get the project started; the project will last for three years. The accounting department estimates that annual fixed costs will be $650,000 and that variable costs should be $250 per ton; accounting will depreciate the initial fixed asset investment straight-line to zero over the three-year project life. It also estimates a salvage value of $260,000 after dismantling costs. The marketing department estimates that the automakers will let the contract at a selling price of $390 per ton. The engineering department estimates you will need an initial net working capital investment of $440,000. You require a 18 percent return and face a marginal tax rate of 30 percent on this project.
What is the estimated NPV for this project? (Round your answer to 2 decimal places. (e.g., 32.16)
Suppose you believe that the accounting department
Consider a project to supply Detroit with 30,000 tons of machine screws annually for automobile production. You will need an initial $4,400,000 investment in threading equipment to get the project started; the project will last for three years. The accounting department estimates that annual fixed costs will be $650,000 and that variable costs should be $250 per ton; accounting will depreciate the initial fixed asset investment straight-line to zero over the three-year project life. It also estimates a salvage value of $260,000 after dismantling costs. The marketing department estimates that the automakers will let the contract at a selling price of $390 per ton. The engineering department estimates you will need an initial net working capital investment of $440,000. You require a 18 percent return and face a marginal tax rate of 30 percent on this project.
Explanation / Answer
a Calculation of NPV of the Project Year Amount PVF(18%) PV = Amt*PVF Sales Revenue (30000 tons *$390) $ 11,700,000.00 Less: Variable costs (30000 tons *250) $ (7,500,000.00) Less: Fixed costs $ (650,000.00) Less: Depreciation (4400000-260000)/3 $ (1,380,000.00) Profit before tax $ 2,170,000.00 Less: Tax = 2170000*30% $ (651,000.00) Profit after tax $ 1,519,000.00 Add: Depreciation $ 1,380,000.00 Cash flows after tax 1 to 3 $ 2,899,000.00 2.17427 $ 6,303,208.73 Initial Cost of inventment 0 $ (4,400,000.00) 1 $ (4,400,000.00) Initial net working capital 0 $ (440,000.00) 1 $ (440,000.00) Salvage value (net of tax) = 260000 (1-0.30) 3 $ 182,000.00 0.60863 $ 110,770.66 Net Present value (Sum of PVs) $ 1,573,979.39 b Calculation of NPV of the Project - Worst case Assumption Initial cost shall increase by 15% 4400000*115% = $ 5,060,000.00 Salvage value shall decrease by 15% 260000*85%= $ 221,000.00 Sales price shall decrease by 10% 390*90%= $ 351.00 Net working capital shall increase by 5% 440000*105%= $ 462,000.00 Year Amount PVF(18%) PV = Amt*PVF Sales Revenue (30000 tons *$351) $ 10,530,000.00 Less: Variable costs (30000 tons *250) $ (7,500,000.00) Less: Fixed costs $ (650,000.00) Less: Depreciation (5060000-221000)/3 $ (1,613,000.00) Profit before tax $ 767,000.00 Less: Tax = 767000*30% $ (230,100.00) Profit after tax $ 536,900.00 Add: Depreciation $ 1,613,000.00 Cash flows after tax 1 to 3 $ 2,149,900.00 2.17427 $ 4,674,463.07 Initial Cost of inventment 0 $ (5,060,000.00) 1 $ (5,060,000.00) Initial net working capital 0 $ (462,000.00) 1 $ (462,000.00) Salvage value (net of tax) = 221000 (1-0.30) 3 $ 154,700.00 0.60863 $ 94,155.06 Net Present value (Sum of PVs) $ (753,381.87) Calculation of NPV of the Project - Best case Assumption Initial cost shall Decrease by 15% 4400000*85% = $ 3,740,000.00 Salvage value shall increase by 15% 260000*115%= $ 299,000.00 Sales price shall increase by 10% 390*110%= $ 429.00 Net working capital shall decrease by 5% 440000*95%= $ 418,000.00 Year Amount PVF(18%) PV = Amt*PVF Sales Revenue (30000 tons *$429) $ 12,870,000.00 Less: Variable costs (30000 tons *250) $ (7,500,000.00) Less: Fixed costs $ (650,000.00) Less: Depreciation (3740000-299000)/3 $ (1,147,000.00) Profit before tax $ 3,573,000.00 Less: Tax = 3573000*30% $ (1,071,900.00) Profit after tax $ 2,501,100.00 Add: Depreciation $ 1,147,000.00 Cash flows after tax 1 to 3 $ 3,648,100.00 2.17427 $ 7,931,954.39 Initial Cost of inventment 0 $ 3,740,000.00 1 $ 3,740,000.00 Initial net working capital 0 $ (418,000.00) 1 $ (418,000.00) Salvage value (net of tax) = 299000 (1-0.30) 3 $ 209,300.00 0.60863 $ 127,386.26 Net Present value (Sum of PVs) $ 11,381,340.65
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