Consider a project to supply Detroit with 20,000 tons of machine screws annually

Question

Consider a project to supply Detroit with 20,000 tons of machine screws annually for automobile production. You will need an initial $3,000,000 investment in threading equipment to get the project started, the project will last for four years. The accounting department estimates that annual fixed costs will be $850,000 and that variable costs should be $450 per ton; accounting will depreciate the initial fixed asset investment straight-line to zero over the four-year project life. It also estimates a salvage value of $280,000 after dismantling costs. The marketing department estimates that the automakers will let the contract at a selling price of $600 per ton. The engineering department estimates you will need an initial net working capital investment of $300,000. You require a 18 percent return and face a marginal tax rate of 38 percent on this project a-1 What is the estimated OCF for this project? OCF a-2 What is the estimated NPV for this project? (Round your answer to 2 decimal places. (e.g., 32.16)) NPV b. Suppose you believe that the accounting department's initial cost and salvage value projections are accurate only to within ±15 percent the marketing department's price estimate is accurate only to within ±10 percent and the engineering department's net working capital estimate is accurate only to within ±5 percent. What is your worst-case and best-case scenario for this project? (Negative amounts should be indicated by a minus sign. Round your answers to 2 decimal places. (e.g., 32.16) Worst-case Best-case

Explanation / Answer

The table is as shown below which calculated the OCF and the NPV:

(a-1)OCF = 1,618,000

(a-2) NPV = 1,296,797.61

b. The worst case table is as shown below:

The best case table is as shown below:

$   3,653,897.76

Worst Case: $ -1,060,302.54 (Negative)

Best Case: $   3,653,897.76

Year 0 1 2 3 4 Initial Investment -3000000 Net WC -300000 Revenue 12000000 12000000 12000000 12000000 Fixed Costs -850000 -850000 -850000 -850000 Variable costs -9000000 -9000000 -9000000 -9000000 Depreciation -750000 -750000 -750000 -750000 Profit before tax 1400000 1400000 1400000 1400000 Taxes at 38% -532000 -532000 -532000 -532000 Profit after tax 868000 868000 868000 868000 Add back Depr. 750000 750000 750000 750000 OCF 1618000 1618000 1618000 1618000 Return of WC 300000 After tax salavge value 173600 Totl cash flow -3300000 1618000 1618000 1618000 2091600 NPV $ 1,296,797.61

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