You are evaluating a product for your company. You estimate the sales price of p
ID: 2710251 • Letter: Y
Question
You are evaluating a product for your company. You estimate the sales price of product to be $110 per unit and sales volume to be 10,100 units in year 1; 25,100 units in year 2; and 5,100 units in year 3. The project has a 3 year life. Variable costs amount to $35 per unit and fixed costs are $201,000 per year. The project requires an initial investment of $327,000 in assets which will be depreciated straight-line to zero over the 3 year project life. The actual market value of these assets at the end of year 3 is expected to be $41,000. NWC requirements at the beginning of each year will be approximately 16% of the projected sales during the coming year. The tax rate is 35% and the required return on the project is 11%. What will the year 2 cash flows for this project be? $1,022,125 $1,131,125 $867,125 $1,572,500
Explanation / Answer
Year 0 Year 1 Year 2 Year 3 Sales vol 10,100 25,100 5,100 Sales price 110 110 110 Initial cost (327,000) Sales Revenue 1,111,000 2,761,000 561,000 Salvage value 41,000 Variable cost @35 (353,500) (878,500) (178,500) Fixed cost (201,000) (201,000) (201,000) Depreciation (109,000) (109,000) (109,000) Total cost (663,500) (1,188,500) (488,500) Income before Tax 447,500 1,572,500 113,500 Tax @35% 156,625 550,375 39,725 Post Tax income 290,875 1,022,125 73,775 Add back depreciation 109,000 109,000 109,000 Total Cash Inflow 399,875 1,131,125 182,775 Disconting factor @11% 1 0.901 0.812 0.731 PV of cash Flow 360,248 918,046 133,644 so Year 2 Cash flow will be $1,131,125 in absolute term and $ 918,046 in PV term
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