You have been hired as a consultant for Pristine Urban-Tech Zither, Inc. (PUTZ),
ID: 2717994 • Letter: Y
Question
You have been hired as a consultant for Pristine Urban-Tech Zither, Inc. (PUTZ), manufacturers of fine zithers. The market for zithers is growing quickly. The company bought some land three years ago for $1.47 million in anticipation of using it as a toxic waste dump site but has recently hired another company to handle all toxic materials. Based on a recent appraisal, the company believes it could sell the land for $1.57 million on an aftertax basis. In four years, the land could be sold for $1.67 million after taxes. The company also hired a marketing firm to analyze the zither market, at a cost of $132,000. An excerpt of the marketing report is as follows:
The zither industry will have a rapid expansion in the next four years. With the brand name recognition that PUTZ brings to bear, we feel that the company will be able to sell 4,500, 5,400, 6,000, and 4,900 units each year for the next four years, respectively. Again, capitalizing on the name recognition of PUTZ, we feel that a premium price of $720 can be charged for each zither. Because zithers appear to be a fad, we feel at the end of the four-year period, sales should be discontinued.
PUTZ believes that fixed costs for the project will be $460,000 per year, and variable costs are 10 percent of sales. The equipment necessary for production will cost $4.2 million and will be depreciated according to a three-year MACRS schedule. At the end of the project, the equipment can be scrapped for $435,000. Net working capital of $132,000 will be required immediately. PUTZ has a 40 percent tax rate, and the required return on the project is 14 percent. MACRS Schedule
What is the NPV of the project?
MACRS Schedule:
Year 1 - 33.33%
Year 2 - 44.45%
Year 3 - 14.81%
Year 4 - 7.41%
You have been hired as a consultant for Pristine Urban-Tech Zither, Inc. (PUTZ), manufacturers of fine zithers. The market for zithers is growing quickly. The company bought some land three years ago for $1.47 million in anticipation of using it as a toxic waste dump site but has recently hired another company to handle all toxic materials. Based on a recent appraisal, the company believes it could sell the land for $1.57 million on an aftertax basis. In four years, the land could be sold for $1.67 million after taxes. The company also hired a marketing firm to analyze the zither market, at a cost of $132,000. An excerpt of the marketing report is as follows:
Explanation / Answer
Results may vary with your given answer based on discouting factor used. I have taken 4 digit factor for better accuracy land related costs not considered as not relevant to the NPV Year 0 Year 1 Year 2 Year 3 Year 4 MACRS depreciation 33.33% 44.45% 14.81% 7.41% All Amts in $ Sales details Sales units 4,500 5,400 6,000 4,900 Sales revenue @720/unit 3,240,000 3,888,000 4,320,000 3,528,000 Less Variable cost @10% 324,000 388,800 432,000 352,800 Fixed costs 460,000 460,000 460,000 460,000 Net Income from sales 2,456,000 3,039,200 3,428,000 2,715,200 NPV calculation Equipment (4,200,000) Net WC (132,000) Net revenue from sales 2,456,000 3,039,200 3,428,000 2,715,200 Less depreciation (1,399,860) (1,866,900) (622,020) (311,220) Salvage 435,000 Net Income before tax 1,056,140 1,172,300 2,805,980 2,838,980 Tax @40% 422,456 468,920 1,122,392 1,135,592 Post Tax income 633,684 703,380 1,683,588 1,703,388 Add : depreciation 1,399,860 1,866,900 622,020 311,220 Total Cash Flow 2,033,544 2,570,280 2,305,608 2,014,608 Discount factor @14% 1 0.8772 0.7695 0.6750 0.5921 PV of cash flows (4,332,000) 1,783,811 1,977,747 1,556,220 1,192,810 NPV 2,178,587 So the NPV is $ 2,178,587
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