4. Jivanka Industries is considering purchasing a new milling machine from Russi
ID: 2793225 • Letter: 4
Question
4. Jivanka Industries is considering purchasing a new milling machine from Russia that costs $100,000. The machine's installation and shipping costs will total $20,000. If accepted, the milling machine proiect will require an initial net working capital investment of $30,000 (all working capital will be returned at the end of the project). Jivanka plans to fully depreciate the machine on a straight-line basis over a period of eight vears (the length of the proiect). An additional working capital investment of $10,000 will need to be made during year 3. The new milling machine will allow for incremental revenue of $60,000 in year 1, growing 8% (compounded) for the length of the project. This extra revenue will require extra expenses (excluding depreciation) of $30,000 in year 1, growing 5% (compounded) for the length of the project. The firm's marginal tax rate is 40%. At the end of the project the milling machine will be sold for S40,000. Calculate the net investment and the net after-tax cash flows of the project for eac eaf 5. A firm wishes to bid on a contract that is expected to yield the after-tax net cash flows at the end of each year listed below. To secure the contract, the firm must spend S25,000 today to retool its plant This retooling will have no salvage value at the end of eight years. The firm needs to earn at least a 12% rate of return on its investments. The depreciation tax benefit from the retooling is already reflected in the net cash flows in the table What is the present value of this project? What is the net present value of this project? What is the profitability index of thisproject? Is the internal rate of return higher or lower than 12% for this project (hint: you don't have to do any further calculations to answer this part)? Should the firm make this investment (assume they have the $25,000 available)2- Net Cash Flow $5,000. $8,000 $9,000. $8,000 $8,000 $5,000* $3,000 -S1,500. Year 43Explanation / Answer
Answer 5)
Present Value and Net Present Value
Year Cash Flows PVIF @ 12% Present Value
0 -$25000 1.000 -$25000
1 5,000 0.893 4,465
2 8,000 0.797 6,376
3 9,000 0.712 6,408
4 8,000 0.636 5,088
5 8,000 0.567 4,536
6 5,000 0.507 2,535
7 3,000 0.452 1,356
8 -1,500 0.404 -606
Net Present Value $5158
b) Profitability Index of Project= Present Value / Initial Investment = 30158/ 25000 = 1.21
c) Internal Rate of Return is to be lower thatn 12 % for this project for higher NPV
d) Because the project has a positive NPV it should be accepted.
The value of the firm, and therefore the shareholders’ wealth, is
increased by $5158 as a result of undertaking the project.
Answer a) Net Investment = $ 100000+20000+30000= $ 150000
Annual Straight Line deprecition for the project
Installed cost = 100000+20000= $ 120000
Note:- It is assumed that The Shipping costs are capitalized .Hence Depreciation is calculated on Installed Cost.
Depreciation = $ 120000/8 = $15000
Calculation of Net after Tax cash Flows of the Project for Each Year
Year Net after tax Cash Flows $ 0 -150000 1 60000-15000(Dep)-30000(exp) -40 % taxes = $ 9000 2 64800 -15000-31500 -40 % of taxes = 10980 3 69984-15000 - 33075 - $40 % of Taxes =13145 -30000(working capital) = -16855 4 75583-15000-34729- 40 % of Taxes = 15512 5 81630-15000-36465 - 40% of taxes = 18099 6 88160-15000-38288-40% of taxes = 20923 7 95213-15000-40202-40% of taxes = 24007 8 102830-15000-42212-40% of taxes = 27371+30000(WC) +40000(sale value)=97371Related Questions
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