Academic Integrity: tutoring, explanations, and feedback — we don’t complete graded work or submit on a student’s behalf.

Keiper, Inc., is considering a new three-year expansion project that requires an

ID: 2763499 • Letter: K

Question

Keiper, Inc., is considering a new three-year expansion project that requires an initial fixed asset investment of $2.7 million. The fixed asset will be depreciated straight-line to zero over its three-year tax life, after which time it will be worthless. The project is estimated to generate $2,080,000 in annual sales, with costs of $775,000. The project requires an initial investment in net working capital of $300,000, and the fixed asset will have a market value of $210,000 at the end of the project. If the tax rate is 35 percent, what is the project’s year 0 net cash flow? Year 1? Year 2? Year 3? If the required return is 12 percent, what is the project's NPV?

Explanation / Answer

Profit=$2,080,000-$775,000-$900,000=$405,000

Tax on Profit=$405,000*.35=$141,750

PAT=$405,000-$141,750=$263,250

Cash flow=PAT+Depreciation=$263,250+$900,000=$1,163,250

Net Cash flow Year 0=-$2,700,000-$300,000=-$3,000,000

Year 1=$1,163,250

Year 2=$1,163,250

Year 3=$1,163,250+$300,000+$210,000*.65=$1,599,750

the project's NPV

Depreciation=$2,700,000/3=$900,000

Year Cash flow PV@13% PV 0 -3,000,000      1.0000     -3,000,000 1 1,163,250      0.8929       1,038,616 2 1,163,250      0.7972         927,336 3 1,599,750      0.7118       1,138,670         104,622