Down Under Boomerang, Inc., is considering a new three-year expansion project th
ID: 2743238 • Letter: D
Question
Down Under Boomerang, Inc., is considering a new three-year expansion project that requires an initial fixed asset investment of S2.88 million. The fixed asset will be depreciated straight-line to zero over its three-year tax life. The project is estimated to generate $2, 140,000 in annual sales, with costs of $835,000. The tax rate is 35 percent and the required return is 10 percent. The project requires an initial investment in net working capital of $360,000, and the fixed asset will have a market value of $240,000 at the end of the project. What is the project's Year 0 net cash flow? Year 1? Year 2? Year 3? (Do not round intermediate calculations. A negative answer should be indicated by a minus sign.) What is the NPV? (Do not round intermediate calculations and round your answer to 2 decimal places, e.g., 32.16.)Explanation / Answer
1.
Cost of fixed asset = $2,880,000
Annual depreciation on fixed asset = Cost of fixed asset / Useful life = $2,880,000/3 years = $960,000
Sale price of fixed asset = $240,000
Tax on sale of fixed asset = $240,000 * 0.35 = $84,000
Net sale proceeds after tax = $240,000 - $84,000 = $156,000
Year
0
1
2
3
Sales revenue
$ 0
$ 2,140,000
$ 2,140,000
$ 2,140,000
Less: Costs
$ 0
$ 835,000
$ 835,000
$ 835,000
Less: Depreciation expense
$ 0
$ 960,000
$ 960,000
$ 960,000
Net income before taxes
$ 0
$ 345,000
$ 345,000
$ 345,000
Less: Taxes
$ 0
$ 120,750
$ 120,750
$ 120,750
Net income
$ 0
$ 224,250
$ 224,250
$ 224,250
Add: Depreciation expense
$ 0
$ 960,000
$ 960,000
$ 960,000
Free operating cash flows
$ 0
$ 1,184,250
$ 1,184,250
$ 1,184,250
Cost of fixed assets
-$ 2,880,000
$ 0
$ 0
$ 0
Net working capital investment
-$ 360,000
$ 0
$ 0
$ 360,000
Sale of fixed assets
$ 0
$ 0
$ 0
$ 156,000
Free non-operating cash flows
-$ 3,240,000
$ 0
$ 0
$ 516,000
Net cash flows
-$ 3,240,000
$ 1,184,250
$ 1,184,250
$ 1,700,250
2.
Year
Cash flows
Present value factor @ 10%
Present value of cash flows
0
-$ 3,240,000
1
-$ 3,240,000
1
$ 1,184,250
0.9091
$ 1,076,591
2
$ 1,184,250
0.8264
$ 978,719
3
$ 1,700,250
0.7513
$ 1,277,423
$ 92,733
Net present value = $92,733
Year
0
1
2
3
Sales revenue
$ 0
$ 2,140,000
$ 2,140,000
$ 2,140,000
Less: Costs
$ 0
$ 835,000
$ 835,000
$ 835,000
Less: Depreciation expense
$ 0
$ 960,000
$ 960,000
$ 960,000
Net income before taxes
$ 0
$ 345,000
$ 345,000
$ 345,000
Less: Taxes
$ 0
$ 120,750
$ 120,750
$ 120,750
Net income
$ 0
$ 224,250
$ 224,250
$ 224,250
Add: Depreciation expense
$ 0
$ 960,000
$ 960,000
$ 960,000
Free operating cash flows
$ 0
$ 1,184,250
$ 1,184,250
$ 1,184,250
Cost of fixed assets
-$ 2,880,000
$ 0
$ 0
$ 0
Net working capital investment
-$ 360,000
$ 0
$ 0
$ 360,000
Sale of fixed assets
$ 0
$ 0
$ 0
$ 156,000
Free non-operating cash flows
-$ 3,240,000
$ 0
$ 0
$ 516,000
Net cash flows
-$ 3,240,000
$ 1,184,250
$ 1,184,250
$ 1,700,250
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