Consider a project to supply Detroit with 40,000 tons of machine screws annually
ID: 2726088 • Letter: C
Question
Consider a project to supply Detroit with 40,000 tons of machine screws annually for automobile production. You will need an initial $5,000,000 investment in threading equipment to get the project started; the project will last for six years. The accounting department estimates that annual fixed costs will be $700,000 and that variable costs should be $300 per ton; accounting will depreciate the initial fixed asset investment straight-line to zero over the six-year project life. It also estimates a salvage value of $600,000 after dismantling costs. The marketing department estimates that the automakers will let the contract at a selling price of $370 per ton. The engineering department estimates you will need an initial net working capital investment of $500,000. You require a return of 15 percent and face a marginal tax rate of 30 percent on this project.
What is the estimated OCF for this project? (Do not round intermediate calculations. Round your answer to the nearest whole number, e.g., 32.)
What is the estimated NPV for this project? (Do not round intermediate calculations. Round your answer to 2 decimal places, e.g., 32.16.)
Suppose you believe that the accounting department’s initial cost and salvage value projections are accurate only to within ±15 percent; the marketing department’s price estimate is accurate only to within ±10 percent; and the engineering department’s net working capital estimate is accurate only to within ±5 percent. What are your worst-case and best-case NPVs for this project? (Negative amounts should be indicated by a minus sign. Do not round intermediate calculations. Round your answers to 2 decimal places, e.g., 32.16.)
Consider a project to supply Detroit with 40,000 tons of machine screws annually for automobile production. You will need an initial $5,000,000 investment in threading equipment to get the project started; the project will last for six years. The accounting department estimates that annual fixed costs will be $700,000 and that variable costs should be $300 per ton; accounting will depreciate the initial fixed asset investment straight-line to zero over the six-year project life. It also estimates a salvage value of $600,000 after dismantling costs. The marketing department estimates that the automakers will let the contract at a selling price of $370 per ton. The engineering department estimates you will need an initial net working capital investment of $500,000. You require a return of 15 percent and face a marginal tax rate of 30 percent on this project.
Explanation / Answer
NWC 500000 Salvage Value 600000 6 th year After Tax Salvage Value 420000 capital rate 15% Tax Rate - 30%, Cost of capital = 15% Normal Worst Case Best Case Project cost $ 5,000,000 $ 5,750,000 $ 4,250,000 Life 6 6 6 Depreciation per year $ 833,333.33 $ 958,333.33 $ 708,333.33 Salvage Value $ 600,000 $ 510,000 $ 690,000 After tax Salvage Value $ 420,000 $ 357,000 $ 483,000 NWC $ 500,000 $ 525,000 $ 475,000 Normal Worst Case Best Case Sales units 40000 36000 44000 Price per unit 370 333 407 Variable Cost per unit 300 330 270 Fixed Cost 700000 $ 770,000.00 $ 630,000.00 Cash Flow Schedule Revenue $ 14,800,000.00 $ 11,988,000.00 $ 17,908,000.00 Less: Variable Cost $ 12,000,000.00 $ 11,880,000.00 $ 11,880,000.00 Contribution $ 2,800,000.00 $ 108,000.00 $ 6,028,000.00 Less: Fixed Cost $ 700,000.00 $ 770,000.00 $ 630,000.00 Less: Depreciation $ 833,333.33 $ 958,333.33 $ 708,333.33 Net Income $ 1,266,666.67 $ -1,620,333.33 $ 4,689,666.67 Tax @ 30% $ 380,000.00 $ -486,100.00 $ 1,406,900.00 Income after Depreciation $ 886,666.67 $ -1,134,233.33 $ 3,282,766.67 Add back Depreciation $ 833,333.33 $ 958,333.33 $ 708,333.33 OCF $ 1,720,000.00 $ -175,900.00 $ 3,991,100.00 Year OCF NWC Salvage Value Total OCF PVF @ 15% Present Value 0 $ -5,000,000 $ -500,000 $ -5,500,000 1 $ -5,500,000 1 $ 1,720,000 $ 1,720,000 0.869565217 $ 1,495,652 2 $ 1,720,000 $ 1,720,000 0.756143667 $ 1,300,567 3 $ 1,720,000 $ 1,720,000 0.657516232 $ 1,130,928 4 $ 1,720,000 $ 1,720,000 0.571753246 $ 983,416 5 $ 1,720,000 $ 1,720,000 0.497176735 $ 855,144 6 $ 1,720,000 $ 500,000 $ 420,000 $ 2,640,000 0.432327596 $ 1,141,345 NPV $ 1,407,052 Year OCF NWC Salvage Value Total OCF PVF @ 15% Present Value 0 $ -5,750,000 -525000 $ -6,275,000 1 $ -6,275,000 1 $ -175,900 $ -175,900 0.869565217 $ -152,957 2 $ -175,900 $ -175,900 0.756143667 $ -133,006 3 $ -175,900 $ -175,900 0.657516232 $ -115,657 4 $ -175,900 $ -175,900 0.571753246 $ -100,571 5 $ -175,900 $ -175,900 0.497176735 $ -87,453 6 $ -175,900 525000 357000 $ 706,100 0.432327596 $ 305,267 NPV $ -6,559,378 Year OCF NWC Salvage Value Total OCF PVF @ 15% Present Value 0 $ -4,250,000 -475000 $ -4,725,000 1 $ -4,725,000 1 $ 3,991,100 $ 3,991,100 0.869565217 $ 3,470,522 2 $ 3,991,100 $ 3,991,100 0.756143667 $ 3,017,845 3 $ 3,991,100 $ 3,991,100 0.657516232 $ 2,624,213 4 $ 3,991,100 $ 3,991,100 0.571753246 $ 2,281,924 5 $ 3,991,100 $ 3,991,100 0.497176735 $ 1,984,282 6 $ 3,991,100 475000 483000 $ 4,949,100 0.432327596 $ 2,139,633 NPV $ 10,793,419
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