Gateway Communications is considering a project with an initial fixed asset cost

Question

Gateway Communications is considering a project with an initial fixed asset cost of $2.46 million which will be depreciated straight-line to a zero book value over the 10-year life of the project. At the end of the project the equipment will be sold for an estimated $300,000. The project will not directly produce any sales but will reduce operating costs by $725,000 a year. The tax rate is 35 percent. The project will require $45,000 of inventory which will be recouped when the project ends. Should this project be implemented if the firm requires a 14 percent rate of return? Why or why not? A. No; The NPV is -$172,937.49. B. No; The NPV is -$87,820.48. C. Yes; The NPV is $251,860.34 D. Yes; The NPV is $466,940.57

Explanation / Answer

cash inflow

725000-246000=479000

less tax @ 35%

After tax cash 311350

add:depreciation 246000

so toatl cash flow 557350

PVAF(14%,10 yr)=5.216

Present value =557350*5.216=29071317.6

Year 10 inflow

45000+300000=345000

less tax @ 35%

After tax cash 224250

PVF(14%, 10 yr)= 0.269

present value =224250*0.269=60323.25

total cash flow= 2967460.85

NPV= 2967460.85-2505000=466,940.57

so, answer is d.

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