Calculate NPV, IRR and Payback based on the information given in the problem exc
ID: 2768420 • Letter: C
Question
Calculate NPV, IRR and Payback based on the information given in the problem except for the specific numbers below Manufacturing Equipment Cost $2,100,000. Sales Revenue increase by 12% per year Capital Budgeting for Project X Based on the following information for Project X, should we undertake the venture? To answer, first prepare a pro forma income statement for each year. Next calculate operating cash flow. Finish the problem by determining total cash flow and then calculating NPV assuming a 28 percent required return. Use a 34 percent tax rate throughout. Project X involves a new type of graphite composite in-line skate wheel. We think we can sell 6,000 units per year at a price of $1000 each. Variable costs will run about $400 per unit, and the product should have a four-year life. Fixed costs for the project will run $450,000 per year. Further, we will need to invest a total of $2,100,000 in manufacturing equipment. This equipment is seven-year MACRS property for tax purposes. In four years, the equipment will be worth about half of what we paid for it. We will have to invest $1,150,000 in net working capital at the start. After that, net working capital requirements will be 25 percent of sales.
Explanation / Answer
Income statement:
sales = 6000*1000. variable costs = 6000*400.
Cash flow from operations:
Total cash flows:
Initial net working capital = $1,150,000. 25% of sales = 25% of 6,000,000 = 1,500,000.
Change in Wc in year 1 = 1,500,000 - 1,150,000 = 350,000. The book value of investment (as calculated above), after 4 years = 656,040. However, it should have been about half of what we paid for it = 2,100,000/2 = 1,050,000. Salvage value after tax = 1,050,000 - 0.34*(1,050,000 - 656,040) = 916,053.60
Cash flow:
NPV = sum of all present values. Present value = amount/(1+r)^n
IRR is the rate which makes NPV as 0. It will have to be calculated on a trial and error basis.
Thus IRR = 1.6027119 - 1 = 0.6027119 or 60.27119%
Payback is the time when initial investment is recovered.
As we can see, the cumulative cash flow is becoming positive in the 2nd year. Payback = 1 year+(1418969/1418969+834889) = 1+0.63 = 1.63 years.
Year MACRS % Depreciation formula Amount Ending book value 1 14.29 0.1429*2100000 300,090 1,799,910 2 24.49 0.2449*2100000 514,290 1,285,620 3 17.49 0.1749*2100000 367,290 918,330 4 12.49 0.1249*2100000 262,290 656,040Related Questions
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