Question

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Consider a project to supply Detroit with 20,000 tons of machine screws annually for automobile production. You will need an initial $3,600,000 investment in threading equipment to get the project started; the project will last for 4 years. The accounting department estimates that annual fixed costs will be $850,000 and that variable costs should be $240 per ton; accounting will depreciate the initial fixed asset investment straight-line to zero over the 4-year project life. It also estimates a salvage value of $250,000 after dismantling costs. The marketing department estimates that the automakers will let the contract at a selling price of $380 per ton. The engineering department estimates you will need an initial networking capital investment of $360,000. You require a return of 11 percent and face a marginal tax rate of 24 percent on this project. a-1 What is the estimated OCF for this project? (Do not round intermediate calculations and round your answer to the nearest whole number, e.g., 32.) a-2 What is the estimated NPV for this project? (Do not round intermediate calculations and enter your answer in dollars, not millions of dollars, rounded to 2 decimal places, e.g., 1,234,567.89.) b. Suppose you believe that the accounting department's initial cost and salvage value projections are accurate only to within +15 percent; the marketing department's price estimate is accurate only to within 10 percent; and the engineering department's net working capital estimate is accurate only to within 5 percent. What is the worst-case NPV for this project? The best-case NPV? (A negative answer should be indicated by a minus sign. Do not round intermediate calculations and enter your answer in dollars, not millions of dollars, rounded to 2 decimal places, e.g., 1,234,567.89.)

Answer 1

Answer with working is given below

a-1 Estimated OCF per year $1,698,000 a-2 Net present value $1,670,255 Worst-case NPV Best-case NPV -$586,115 $3,926,625 Year 1 Year 2 Year 3 Year 4 Year 0 -$3,600,000 - $360,000 Initial Investment Working capital Selling price Variable cost Contribution per unit Total Contribution Less: Fixed Cost Depreciation Income before tax Tax at 24% Income after tax Add: Depreciation Operating Cash flows Release of Working Capital After tax salvage value Cash flow Present value at 11% Present value of Cash flows $380 $240 $140 $2,800,000 $850,000 $900,000 $1,050,000 $252,000 $798,000 $900,000 $1,698,000 $380 $240 $140 $2,800,000 $850,000 $900,000 $1,050,000 $252,000 $798,000 $900,000 $1,698,000 $380 $240 $140 $2,800,000 $850,000 $900,000 $1,050,000 $252,000 $798,000 $900,000 $1,698,000 $380 $240 $140 $2,800,000 (Contribution per unit X 20,000) $850,000 $900,000 ($3,600,000/4) $1,050,000 $252,000 $798,000 $900,000 $1,698,000 $360,000 $190,000 (250,000*(1-24%)) $2,248,000 0.6587 $1,480,827 $1,670,255 NPV -$3,960,000 1.0000 -$3,960,000 $1,698,000 0.9009 $1,529,730 $1,698,000 0.8116 $1,378,135 $1,698,000 0.7312 $1,241,563 Net present value $1,670,255 Worst-case NPV Initial cost Salvage value Selling price Working capital 15% higher 15% lower 10% lower 5% higher Revised $4,140,000 $212,500 $342 per unit $378,000 Year 1 Year 2 Year 3 Year 4 Year O l -$4,140,000 -$378,000 $3421 Initial Investment Working capital Selling price Variable cost Contribution per unit Total Contribution Less: Fixed Cost Depreciation Income before tax Tax at 24% Income after tax Add: Depreciation Operating Cash flows Release of Working Capital After tax salvage value Cash flow Present value at 11% Present value of Cash flows $342 $240 $102 $2,040,000 $850,000 $1,035,000 $155,000 $37,200 $117,800 $1,035,000 $1,152,800 $240 $102 $2,040,000 $850,000 $1,035,000 $155,000 $37,200 $117,800 $1,035,000 $1,152,800 $342 $240 $102 $2,040,000 $850,000 $1,035,000 $155,000 $37,200 $117,800 $1,035,000 $1,152,800 $342 $240 $102 $2,040,000 (Contribution per unit X 20,000) $850,000 $1,035,000 ($4,140,000/4) $155,000 $37,200 $117,800 $1,035,000 $1,152,800 $378,000 $161,500 (212,500*(1-24%)) $1,692,300 0.6587 $1,114,770-$586,115 NPV -$4,518,000 1.0000 -$4,518,000 $1,152,800 0.9009 $1,038,559 $1,152,800 0.8116 $935,638 $1,152,800 0.7312 $842,917 Net present value -$586,115 Best-Case NPV Initial cost Salvage value Selling price Working capital 15% lower 15% higher 10% higher 5% lower Revised $3,060,000 $287,500 $418 per unit $342,000 Year 1 Year 2 Year 3 Year 4 Year 0 -$3,060,000 -$342,000 $418 $240 Initial Investment Working capital Selling price Variable cost Contribution per unit Total Contribution Less: Fixed Cost Depreciation Income before tax Tax at 24% Income after tax Add: Depreciation Operating Cash flows Release of Working Capital After tax salvage value Cash flow Present value at 11% Present value of Cash flows $418 $240 $178 $3,560,000 $850,000 $765,000 $1,945,000 $466,800 $1,478,200 $765,000 $2,243,200 $418 $240 $178 $3,560,000 $850,000 $765,000 $1,945,000 $466,800 $1,478,200 $765,000 $2,243,200 $418 $240 $178 $3,560,000 $850,000 $765,000 $1,945,000 $466,800 $1,478,200 $765,000 $2,243,200 $178 $3,560,000 (Contribution per unit X 20,000) $850,000 $765,000 ($3,060,000/4) $1,945,000 $466,800 $1,478,200 $765,000 $2,243,200 $342,000 $218,500 (287,500*(1-24%)) $2,803,700 0.6587 $1,846,884 $3,926,625 NPV | $3,402,000 1.0000 -$3,402,000 $2,243,200 0.9009 $2,020,901 $2,243,200 0.8116 $2,243,200|| 0.7312 $1,640,209 Net present value $3,926,625