Question

5. The C Corporation, a firm in the 34 percent marginal tax bracket with a required rate of return or discount rate. This project involves the introduction product. This project is expected to last five years and then, because this is som of a fad product, it will be terminated. Given the following information, determine the this is somewhat net cash flows associated with the project, the project's net present value. Apply the appropriate decision criteria. Cost of new plant and equipment: $198,000,000, Shipping and installation costs $ 2,000,000. Unit Sales: Years Units Sold 1,000,000 1,800,000 1,800,000 1,200,000 700,000 Sales price per unit: $800/unit in Years 1-4, $600/unit in Year 5 Variable cost per unit: $400/unit, Annual fixed costs: $10,000,000 Working capital requirements: There will be an initial working capital requirement of $2,000,000 just to get production started. For each year, the total investment in net working capital will equal 10 percent of the dollar value of sales for that year. Thus, the investment in working capital will increase during year 1 through 3, then decrease in Year 4. Finally all working capital is liquidated at the termination of project at the end of year 5.The depreciation method: Use the simplified straight-line method over five years. It is assumed that the plant and equipment will have no salvage value after five year.

Answer 1

Initial Investment = Fixed Capital Investment + Installation Cost + Working Capital

= $198000000 + $2000000 + $2000000

= $202000000

Depreciation:

New Plant and Equipment = $198000000

Salvage value = 0

Depreciation as per straight-line method = Cost of asset / Useful life of asset

= $198000000 / 5

= $ 39600000

	Year 1	Year 2	Year 3	Year 4	Year 5
Sales	$800 * 1000000 = $800000000	$800 * 1800000 = $1440000000	$800 * 1800000 = $1440000000	$800 * 1200000 = $960000000	$600 * 700000 = $420000000
Variable Cost	$400 * 1000000 = ($400000000)	$400 * 1800000 = ($720000000)	$400 * 1800000 = ($720000000)	$400 * 1200000 = ($480000000)	$400 * 700000 = ($280000000)
Fixed Cost	($10000000)	($10000000)	($10000000)	($10000000)	($10000000)
EBIT	$390000000	$710000000	$710000000	$470000000	$130000000
1 - t	0.66	0.66	0.66	0.66	0.66
EBIT (1-t)	$257500000	$468600000	$468600000	$310200000	$85800000
Depreciation	$39600000	$39600000	$39600000	$39600000	$39600000
Capital Expenditure	$198000000	$198000000	$198000000	$198000000	$198000000
Net Change in Working Capital	$80000000 - $200000 = $78000000	$144000000 - $8000000 = $64000000	$144000000 - $144000000 = $0	$96000000 - $144000000 =($48000000)	$42000000 - $96000000 =($54000000)
Net Cash Flow	$21000000	$246200000	$310200000	$199800000	($18600000)

Net Cash Flow = EBIT (1 - T) + Depreciation - Capital Expenditure - Net Change in working capital

Net Present Value = Sum of CF_n/(1+r)ⁿ - Initial Investment

=

21000000/(1+0.15)¹ +246200000/(1+0.15)² +310200000/(1+0.15)³ +199800000/(1+0.15)⁴ +(-18600000)/(1+0.15)⁵ - 202000000

= 18260869.57 + 186162570.9 + 203961535.3 + 114236298.5 - 9247487.277 - 202000000

= $311373787