"Caspian Sea Drinks is considering the production of a diet drink. The expansion of the plant and the purchase of the equipment necessary to produce the diet drink will cost $23.00 million. The plant and equipment will be depreciated over 10 years to a book value of $3.00 million, and sold for that amount in year 10. Net working capital will increase by $1.43 million at the beginning of the project and will be recovered at the end. The new diet drink will produce revenues of $8.88 million per year and cost $2.20 million per year over the 10-year life of the project. Marketing estimates 12.00% of the buyers of the diet drink will be people who will switch from the regular drink. The marginal tax rate is 32.00%. The WACC is 13.00%. Find the NPV (net present value)."
2 decimal places
Profit = (revenues-sales)*(1-switch%)
=(8880000-2200000)*(1-0.12) = 5878400
| Time line | 0 | 1 | 2 | 3 | 4 | 5 | 6 | 7 | 8 | 9 | 10 | |||
| Cost of new machine | -23000000 | |||||||||||||
| Initial working capital | -1430000 | |||||||||||||
| =Initial Investment outlay | -24430000 | |||||||||||||
| 100.00% | ||||||||||||||
| Profits | 5878400 | 5878400 | 5878400 | 5878400 | 5878400 | 5878400 | 5878400 | 5878400 | 5878400 | 5878400 | ||||
| -Depreciation | (Cost of equipment-salvage value)/no. of years | -2000000 | -2000000 | -2000000 | -2000000 | -2000000 | -2000000 | -2000000 | -2000000 | -2000000 | -2000000 | 3000000 | =Salvage Value | |
| =Pretax cash flows | 3878400 | 3878400 | 3878400 | 3878400 | 3878400 | 3878400 | 3878400 | 3878400 | 3878400 | 3878400 | ||||
| -taxes | =(Pretax cash flows)*(1-tax) | 2637312 | 2637312 | 2637312 | 2637312 | 2637312 | 2637312 | 2637312 | 2637312 | 2637312 | 2637312 | |||
| +Depreciation | 2000000 | 2000000 | 2000000 | 2000000 | 2000000 | 2000000 | 2000000 | 2000000 | 2000000 | 2000000 | ||||
| =after tax operating cash flow | 4637312 | 4637312 | 4637312 | 4637312 | 4637312 | 4637312 | 4637312 | 4637312 | 4637312 | 4637312 | ||||
| reversal of working capital | 1430000 | |||||||||||||
| +Proceeds from sale of equipment after tax | =selling price* ( 1 -tax rate) | 2040000 | ||||||||||||
| +Tax shield on salvage book value | =Salvage value * tax rate | 960000 | ||||||||||||
| =Terminal year after tax cash flows | 4430000 | |||||||||||||
| Total Cash flow for the period | -24430000 | 4637312 | 4637312 | 4637312 | 4637312 | 4637312 | 4637312 | 4637312 | 4637312 | 4637312 | 9067312 | |||
| Discount factor= | (1+discount rate)^corresponding period | 1 | 1.13 | 1.2769 | 1.442897 | 1.6304736 | 1.8424352 | 2.0819518 | 2.35260548 | 2.6584442 | 3.004042 | 3.394567 | ||
| Discounted CF= | Cashflow/discount factor | -24430000 | 4103815.929 | 3631695.513 | 3213889.834 | 2844150.3 | 2516947.2 | 2227386.9 | 1971138.824 | 1744370.6 | 1543691 | 2671124 | ||
| NPV= | Sum of discounted CF= | 2038210.37 | ||||||||||||
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