The Bruin\'s Den Outdoor Gear is considering a new 6-year project to produce a n

Question

The Bruin's Den Outdoor Gear is considering a new 6-year project to produce a new tent line. The equipment necessary would cost $1.17 million and be depreciated using straight-line depreciation to a book value of zero. At the end of the project, the equipment can be sold for 15 percent of its initial cost. The company believes that it can sell 20,500 tents per year at a price of $58 and variable costs of $19 per tent. The fixed costs will be $335,000 per year. The project will require an initial investment in net working capital of $169,000 that will be recovered at the end of the project. The required rate of return is 10.1 percent and the tax rate is 35 percent. What is the NPV?

$824,744

$380,043

$501,537

$578,641

$427,415

Explanation / Answer

$427,415

Working:

a. Calculation of depreciation Depreciation Expense = (Cost - Salvage Value)/Useful life = (1170000-0)/6 = $       1,95,000 b. Calculation annual cash flow Selling price per unit $                   58 Variable cost per unit $                  -19 Contribution margin per unit $                   39 Number of units sold               20,500 Total contribution margin $       7,99,500 Fixed Costs $      -3,35,000 Depreciation Expense $      -1,95,000 Income before tax $       2,69,500 Tax Expense $         -94,325 Net Income $       1,75,175 Depreciation Expense $       1,95,000 Annual cash flow $       3,70,175 c. Calculation of NPV Year 0 1 2 3 4 5 6 Total Cost of Equipment $        -11,70,000 Net Working capital $          -1,69,000 Operating cash flow $       3,70,175 $       3,70,175 $       3,70,175 $       3,70,175 $       3,70,175 $       3,70,175 After tax sale of equipment $       1,14,075 Release of net working capital $       1,69,000 Total $        -13,39,000 $       3,70,175 $       3,70,175 $       3,70,175 $       3,70,175 $       3,70,175 $       6,53,250 Discount factor                    1.0000               0.9083               0.8249               0.7493               0.6805               0.6181               0.5614 Present Value $        -13,39,000 $       3,36,217 $       3,05,374 $       2,77,361 $       2,51,917 $       2,28,808 $       3,66,738 $     4,27,415 Working: Selling price of equipment = $     11,70,000 x 15% = $       1,75,500 After tax sale price of equipment = $       1,75,500 x   (1-0.35) = $       1,14,075

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