Consider a project to supply 117 million postage stamps per year to the U.S. Pos

Question

Consider a project to supply 117 million postage stamps per year to the U.S. Postal Service for the next five years. You have an idle parcel of land available that cost $2,070,000 five years ago; if the land were sold today, it would net you $2,270,000 aftertax. The land can be sold for $2,470,000 after taxes in five years. You will need to install $5.57 million in new manufacturing plant and equipment to actually produce the stamps; this plant and equipment will be depreciated straight-line to zero over the project’s five-year life. The equipment can be sold for $670,000 at the end of the project. You will also need $770,000 in initial net working capital for the project, and an additional investment of $67,000 in every year thereafter. Your production costs are .67 cents per stamp, and you have fixed costs of $1,030,000 per year. If your tax rate is 30 percent and your required return on this project is 10 percent, what bid price should you submit on the contract?

Bid Price?

Explanation / Answer

Solution :

The value of land given has no usage while caluclaitng the price to bid

Given required rate of return 10% and tax 30 % hence post tax return = 10% *( 1- tax ) = 7%

Will discount at 7% and additional investment every year added to the total cost shown below :

Therefore the price to bid should be = 324255358/117million

= $2.77 per stamp

Thank you.

Units 117 million 117 million 117 million 117 million 117 million Variable cost 75710000 75710000 75710000 75710000 75710000 Fixed cost 1030000 1030000 1030000 1030000 1030000 Depreciation (5.57-.67)million/5 980000 980000 980000 980000 980000 Total cost 77720000 77720000 77720000 77720000 77720000

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