Question

Electricar Inc. is considering expanding manufacturing capacities in Asia. This would involve an initial investment of 4 billion RMB . The plant will start production after one year. It is expected to last for five years and a have a salvage value and the end of this period of 500 million RMB in real terms. The plant will produce 100 000 cars a year. The firm anticipates that in the first year it will be able to sell each car for 65 000 RMB, and thereafter the price is expected to increase by 4% a year.

Raw materials for each car are forecasted to cost 20 000 RMB in the first year and these costs are predicted to increase by 3% yearly. Total labor costs for the plant are expected to be 1.1 billion RMB in the first year and thereafter will increase by 7% a year. The land on which the plant is built can be rented for five years at a fixed cost of 300 million RMB a year payable at the start of each year. Electricar Inc.'s discount rate for this type of project is 10% (nominal). The expected rate of inflation is 5%. The plant can be depreciated straight-line over the five-year period and profits will be taxed at 20%. Assume all cash flows occur at the end of each except where otherwise stated.

What is the NPV of the project plant for Electricar Inc?

Answer 1

We calculate the nominal cash flows for each year, and discount them at the nominal rate to the find the NPV in real terms.

Nominal salvage value of plant after 5 years = real salvage value * (1 + inflation rate)⁵

Nominal salvage value of plant after 5 years = 500,000,000 * (1 + 5%)⁵ = RMB 638,140,781

Annual depreciation = (Cost of plant - salvage value) / depreicable life

Annual depreciation = (4,000,000,000 - 638,140,781) / 5 = RMB 672,371,844

Operating cash flow (OCF) each year = income after tax + depreciation

The salvage value equals the book value of the plant, and hence there is no tax adjustment required.

NPV is calculated using NPV function in Excel

NPV is RMB 6,908,086,502

ei ol 2 Initial Investment 3 Cost of plant 4,000,000,000 100,000 76,041 22,510 7,604,080,640 2,251,017,620 5 OCF 6 Number of cars sold (units) 7 Sale price per car 8 Material cost per car 9 Revenues 10 - Material Costs 11 - Fixed Costs 12 - Labor Costs 13 - Depreciation 14 Income before tax 15 - Taxes 16 Income after tax 17 + Depreciation 18 OCF 100,000 65,000 20,000 6,500,000,000 2,000,000,000 300,000,000 300,000,000 1,100,000,000 672,371,844 (300,000,000) 2,427,628,156 (60,000,000) 485,525,631 (240,000,000) 1,942,102,525 672,371,844 (240,000,000) 2,614,474,369 100,000 67,600 20,600 6,760,000,000 2,060,000,000 300,000,000 1,177,000,000 672,371,844 2,550,628,156 510,125,631 2,040,502,525 672,371,844 2,712,874,369 100,000 70,304 21,218 7,030,400,000 2,121,800,000 300,000,000 1,259,390,000 672,371,844 2,676,838,156 535,367,631 2,141,470,525 672,371,844 2,813,842,369 100,000 73,116 21,855 7,311,616,000 2,185,454,000 300,000,000 1,347,547,300 672,371,844 2,806,242,856 561,248,571 2,244,994,285 672,371,844 2,917,366,129 1,441,875,611 672,371,844 3,238,815,565 647,763,113 2,591,052,452 672,371,844 3,263,424,296 19 20 Terminal Cash Flow 21 Salvage Value 638,140,781 22 23 NPV Analysis 24 Project Cash Flows (4,240,000,000) 2,614,474,369 2,712,874,369 2,813,842,369 2,917,366,129 3,901,565,077 25 26 NPV 6,908,086,502

A в G 2 2 Initial Investment 3 Cost of plant 4000000000 100000 =F7*(1+4%) =F8*(1+3%) =G6 G7 =G6-G8 300000000 5 OCF 6 Number of cars sold (units) 7 Sale price per car 8 Material cost per car 9 Revenues 10 - Material Costs 11 - Fixed Costs 12 - Labor Costs 13 - Depreciation 14 Income before tax 15 - Taxes 16 Income after tax 17 + Depreciation 18 OCF 19 20 Terminal Cash Flow 21 Salvage Value 22 23 NPV Analysis 24 Project Cash Flows 100000 65000 20000 =C6 C7 =C6 C8 300000000 1100000000 672371843.75 =C9-C10-C11-C12-C13 =C14-20% C14-15 =C13 =C16+C17 100000 =C7*(1+4%) =C8*(1+3%) =D6*D7 =D6*D8 300000000 =C12*(1+7%) 672371843.75 =D9-10-11-12-13 D14*20% =D14-D15 =D13 =D16+D17 100000 =D7*(1+4%) =D8*(1+3%) =E6 E7 -E6 E8 300000000 =D12*(1+7%) 672371843.75 =E9-E10-E11-E12-E13 =E14-20% =E14-E15 =E13 =E16+E17 100000 =E7*(1+4%) =E8*(1+3%) =F6*F7 =F6-F8 300000000 =E12*(1+7%) 672371843.75 =F9-F10-F11-F12-F13 =F14-20% =F14-F15 =F13 =F16+F17 =B9-B10-B11-B12-B13 =B14-20% =B14-B15 =B13 =B16+B17 =F12*(1+7%) 672371843.75 =G9-G10-G11-G12-G13 =G14-20% =G14-G15 =G13 =G16+G17 638140781.25 =-B3+B18 =C18 =D18 E18 =F18 =G18+G21 =G18+G21 25 26 NPV =NPV(10%,C24:G24)+B24 27