Q2) After spending $10.000 on client development, you have just been offered a b
ID: 2781769 • Letter: Q
Question
Q2) After spending $10.000 on client development, you have just been offered a big production contract by a new client. The contract will add $200,000 to your revenues for each of next 5 years and it will cost you $100,000 per year to make the additional product. You will have to use some existing equipment and buy new equipment as well. The existing equipment is fully depreciated, but could be sold for $50,000 now. Ifyou use it in the project, it will be worthless at the end of the project. You will buy new equipment valued at $30,000 and use S-year straight line depreciation. Your current production manager earns $80,000 per year. Since she is busy with ongoing projects, you are planning to hire an assistant at $40,000 per year to help with expansion. You will have to increase your inventory immediately from $20,000 to $30,000. It will return to $20,000 at the end of the project. Your company's tax rate is 35% and your discount rate is 15%. a) What is OCF per year? (Hint: Additional assistant hired is a part of COGS) (10 pts)Explanation / Answer
The old machine is a sunk cost and should not be considered in this case
Depreciation = 30,000 / 5 = 6,000
OCF = Profits + Depreciation = 35,100 + 6,000 = 41,100
For NPV, insert CF0 = -30,000 - 10,000 = 40,000, CF1 = CF4 = 41,100, CF5 = 41,100 + 20,000 = 61,000
and I/Y = 15%
=> Compute NPV = $107,717.11
Sales 200000 Cost -140000 Depreciation -6000 EBT 54000 Tax (35%) -18900 Profits 35100 OCF 41100Related Questions
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