Question

You have been hired as a consultant for Pristine Urban-Tech Zither, Inc. (PUTZ), manufacturers of fine zithers. The market for zithers is growing quickly. The company bought some land three years ago for $2.6 million in anticipation of using it as a toxic waste dump site but has recently hired another company to handle all toxic materials. Based on a recent appraisal, the company believes it could sell the land for $2.8 million on an aftertax basis. In four years, the land could be sold for $3 million after taxes. The company also hired a marketing firm to analyze the zither market, at a cost of $315,000. An excerpt of the marketing report is as follows:

The zither industry will have a rapid expansion in the next four years. With the brand name recognition that PUTZ brings to bear, we feel that the company will be able to sell 6,500, 7,200, 7,800, and 6,100 units each year for the next four years, respectively. Again, capitalizing on the name recognition of PUTZ, we feel that a premium price of $495 can be charged for each zither. Because zithers appear to be a fad, we feel at the end of the four-year period, sales should be discontinued.

PUTZ believes that fixed costs for the project will be $635,000 per year, and variable costs are 20 percent of sales. The equipment necessary for production will cost $3.35 million and qualifies for 100 percent bonus depreciation in the first year. At the end of the project, the equipment can be scrapped for $555,000. Net working capital of $265,000 will be required immediately. PUTZ has a tax rate of 24 percent, and the required return on the project is 11 percent.

What is the NPV of the project?

Answer 1

C34 .: X fx -495*0.8 A B C D E F G H I J K L M N O Contrib Net Sale ution Fixed Depreciati Depreciati Operating working Total cash PVIF@ 32 Year units per unit costs on PBT Tax@24% PAT on cash flows capital Investment flows 11% Present value 33 0 (265,000) (6,150,000) (6,415,000) 1.000 $ -6,415,000.00 34 1 6,500 $ 396 635,000 3,350,000 (1,411,000) (338,640) (1,072,360) 3,350,000 2,277,640 2,277,640 0.901 $ 2,051,927.93 35 21 7,200 $ 396 635,000 2,216,200 531,888 1,684,312 1,684,312 1,684,312 0.812 $ 1,367,025.40 36 37,800 $ 396 635,000 2,453,800 588,912 1,864,888 1,864,888 1,864,888 0.731 $ 1,363,590.03 4 6,100 $ 396 635,000 1,780,600 427,344 1,353,256 - 1,353,256 265,000 3,421,800 5,040,056 0.659 $ 3,320,041.00 38 =3000000+555000*(1-24%) 39 Net present value $1,687,584.36 37

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