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 $2.872 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 $714,000 a year. The tax rate is 35 percent. The project will require $52,000 of inventory which will be recouped when the project ends. What is the net present value at the required rate of return of 13.6 percent?

Explanation / Answer

Answer: Initial cash flow = -$2,872,000 - $52,000 = -$2,924,000

OCF = $714,000(1 - 0.35) + ($2,872,000/10)(0.35) = $564620

Final cash flow = $52,000 + $300,000 (1 - 0.35) = $247,000

NPV=-2924000+564620*PVIFA(13.6%,10)+$247000*PVIF(13.6%,10)

=-2924000+2991695.53+69010.26

=$ 136705.79

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