Question

H. Cochran Enterprises is considering a new three-year expansion project that requires an initial fixed asset investment of $2,290,000. The fixed asset falls into the three-year MACRS class (MACRS schedule). The project is estimated to generate $1,715,000 in annual sales, with costs of $624,000. The project requires an initial investment in net working capital of $260,000, and the fixed asset will have a market value of $195,000 at the end of the project. a. If the tax rate is 21 percent, what is the project’s Year 0 net cash flow? Year 1? Year 2? Year 3? (A negative answer should be indicated by a minus sign. Do not round intermediate calculations and round your answers to two decimal places, e.g., 32.16.) b. If the required return is 9 percent, what is the project's NPV? (Do not round intermediate calculations and round your answer to two decimal places, e.g., 32.16.)

Answer 1

Time line		0	1	2	3
Cost of new machine		-2290000
Initial working capital		-260000
=Initial Investment outlay		-2550000
3 years MACR rate			33.33%	44.45%	14.81%	7.41%
Sales			1715000	1715000	1715000
Profits	Sales-variable cost		1091000	1091000	1091000
-Depreciation	=Cost of machine*MACR%		-763257	-1017905	-339149	169689	=Salvage Value
=Pretax cash flows			327743	73095	751851
-taxes	=(Pretax cash flows)*(1-tax)		258916.97	57745.05	593962.29
+Depreciation			763257	1017905	339149
=after tax operating cash flow			1022173.97	1075650.05	933111.29
reversal of working capital					260000
+Proceeds from sale of equipment after tax	=selling price* ( 1 -tax rate)				154050
+Tax shield on salvage book value	=Salvage value * tax rate				35634.69
=Terminal year after tax cash flows					449684.69
a. Total Cash flow for the period		-2550000	1022173.97	1075650.05	1382795.980
Discount factor=	(1+discount rate)^corresponding period	1	1.09	1.1881	1.295029
Discounted CF=	Cashflow/discount factor	-2550000	937774.2844	905353.1268	1067772.212
b. NPV=	Sum of discounted CF=	360899.62