Question

We project unit sales for a new household-use laser-guided cockroach search and destroy system as follows:

Year	Unit Sales
1	102,500
2	114,500
3	137,500
4	143,500
5	96,500

The new system will be priced to sell at $490 each.

The cockroach eradicator project will require $1,700,000 in net working capital to start, and total net working capital will rise to 15% of the change in sales. The variable cost per unit is $360, and total fixed costs are $2,800,000 per year. The equipment necessary to begin production will cost a total of $24 million. This equipment is mostly industrial machinery and thus qualifies for CCA at a rate of 20%. In five years, this equipment will actually be worth about 20% of its cost.

The relevant tax rate is 35%, and the required return is 14%. Based on these preliminary estimates, what is the NPV of the project? (Enter the answer in dollars. Do not round your intermediate calculations. Round the final answer to 2 decimal places. Omit $ sign in your response.)

Answer 1

Solution:

Calculation of the NPV of the project:

Year	0	1	2	3	4	5
Unit Sold		102500	114500	137500	143500	96500
Revenue	$ 490.00 per unit	50,225,000.00	56,105,000.00	67,375,000.00	70,315,000.00	47,285,000.00
Change in revenue			5,880,000.00	11,270,000.00	2,940,000.00	(23,030,000.00)
Variable Cost	$ 360.00 per unit	36,900,000.00	41,220,000.00	49,500,000.00	51,660,000.00	34,740,000.00
Fixed Cost		2,800,000.00	2,800,000.00	2,800,000.00	2,800,000.00	2,800,000.00
Depreciation (Note 1)		4,800,000.00	3,840,000.00	3,072,000.00	2,457,600.00	1,966,080.00
Profit Before Tax		5,725,000.00	8,245,000.00	12,003,000.00	13,397,400.00	7,778,920.00
Tax		2,003,750.00	2,885,750.00	4,201,050.00	4,689,090.00	2,722,622.00
Profit After Tax		3,721,250.00	5,359,250.00	7,801,950.00	8,708,310.00	5,056,298.00
Cash flow after tax		8,521,250.00	9,199,250.00	10,873,950.00	11,165,910.00	7,022,378.00
Initial Investment	(24,000,000.00)
Working Capital requirement	(1,700,000.00)	-	(882,000.00)	(1,690,500.00)	(441,000.00)	3,454,500.00
Salvage Value (Note 1)						1,572,864.00
Cash Flows	(25,700,000.00)	8,521,250.00	8,317,250.00	9,183,450.00	10,724,910.00	12,049,742.00
Required Return	14%
NPV	=NPV(rate, values)
	6,124,094.53

Hence the NPV of the project is 6,124,094.53

Note 1: Calculation of Depreciation and Salvage Value of Equipment

Year	1	2	3	4	5
Opening Balance of Equipment	-	19,200,000.00	15,360,000.00	12,288,000.00	9,830,400.00
Purchase	24,000,000.00	-	-	-	-
Disposal	-	-	-	-	-
Total	24,000,000.00	19,200,000.00	15,360,000.00	12,288,000.00	9,830,400.00
CCA @ 20%	4,800,000.00	3,840,000.00	3,072,000.00	2,457,600.00	1,966,080.00
Closing Balance	19,200,000.00	15,360,000.00	12,288,000.00	9,830,400.00	7,864,320.00
Salvage Value @ 20% of cost at the end of 5th year					1,572,864.00