Consider a project to supply 60,800,000 postage stamps to the U.S. Postal Servic
ID: 2766573 • Letter: C
Question
Consider a project to supply 60,800,000 postage stamps to the U.S. Postal Service for the next 5 years. You have an idle parcel of land available that cost $760,000 five years ago; if the land were sold today, it would net you $912,000, aftertax. The land can be sold for $1,500,000 after taxes in 5 years. You will need to install $2,356,000 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 5-year life. The equipment can be sold for $456,000 at the end of the project. You will also need $469,000 in initial net working capital for the project, and an additional investment of $38,000 in every year thereafter. All net working capital will be recovered when the project ends. Your production costs are 0.38 cents per stamp, and you have fixed costs of $608,000 per year. Your tax rate is 31 percent and your required return on this project is 11 percent. What bid price per stamp should you submit?
Explanation / Answer
Answer: The bid price per stamp should b $0.026.
$651,928.11 = [(P-$0.0038)(60,800,000) - $608,000][1 - 0.31] + ($2,356,000/5)(0.31)
P=$0.026
NPV = 0 = PV Annuity Factor * (OCF) + PV(initial cost and other things)
NPV = 0 = PV Annuity Factor * (OCF) + Z
PV(initial cost and other things) = Z
OCF = Z / (Annuity Factor)
where OCF = { [ ( (P - MC) * Q ) * (1-t) ] + (Depr) t } - FC
OCF - (Depr*t) = { [ (P - MC) * Q (1-t) ] ] }
( OCF - (Depr*t) ) / (1-t) = ( ( P - MC) * Q ) - FC
[ ( OCF - (Depr*t) ) / (1-t) ] + FC = [ ( P - MC) * Q ]
{ [ ( OCF - (Depr*t) ) / (1-t) ] + FC } / Q = ( P - MC)
( { [ ( OCF - (Depr*t) ) / (1-t) ] + FC } / Q ) + MC = P
0 1 2 3 4 Land -912000 P&E -2356000 Taxes on excess dep NWC -469000 -38000 -38000 -38000 -38000 NWC withdrawls Sum of costs -3737000 -38000 -38000 -38000 -38000 PVs -3737000 -34234 -30842 -27785 -25032 Z=Sum of PVs -2409459 Discount factors 1 0.9009 0.8116 0.7312 0.6587 Annuity factor 3.6959 OCF 651928.11Related Questions
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