Details given |
|
Depreciation |
SLM |
Salvage value |
0 |
Tax |
40% |
Required IRR |
15% |
Cash Opex (pa) |
10,000 |
Cash revenue (pa) |
30,000 |
Life of asset (yrs) |
5 |
Investment |
50,000 |
Answer
A)
Year ===> |
1 |
2 |
3 |
4 |
5 |
EATCF Stream |
|||||
Cash revenue |
30,000 |
30,000 |
30,000 |
30,000 |
30,000 |
Cash opex |
-10,000 |
-10,000 |
-10,000 |
-10,000 |
-10,000 |
Depreciation |
-10,000 |
-10,000 |
-10,000 |
-10,000 |
-10,000 |
Earnigs before tax (EBT) |
10,000 |
10,000 |
10,000 |
10,000 |
10,000 |
Tax (EBT*40%) |
-4,000 |
-4,000 |
-4,000 |
-4,000 |
-4,000 |
Earnings after tax |
6,000 |
6,000 |
6,000 |
6,000 |
6,000 |
Add depreciation |
10,000 |
10,000 |
10,000 |
10,000 |
10,000 |
EATCF |
16,000 |
16,000 |
16,000 |
16,000 |
16,000 |
B)
NPV at 10% |
||||||
Year ===> |
0 |
1 |
2 |
3 |
4 |
5 |
Investment |
-50,000 |
|||||
EATCF |
16,000 |
16,000 |
16,000 |
16,000 |
16,000 |
|
Net cash flow |
-50,000 |
16,000 |
16,000 |
16,000 |
16,000 |
16,000 |
Discount rate |
10% |
10% |
10% |
10% |
10% |
10% |
Discount: 1/(1.10^year) |
1.0000 |
0.9091 |
0.8264 |
0.7513 |
0.6830 |
0.6209 |
Discounted net cash flow |
-50,000 |
14,545 |
13,223 |
12,021 |
10,928 |
9,935 |
NPV (Sum of Discounted net cash flow |
10,653 |
C)
IRR: It is the discount rate where the net present value of a project is zero. It has to be calculated on a trial and error basis. Below we have calculated the NPV, with three rates, 15%, 18% and 18.03%. Since the NPV at 18.03% is closest to zero, NPV is close to 18.03%
Year ===> |
0 |
1 |
2 |
3 |
4 |
5 |
Net cash flows |
-50,000 |
16,000 |
16,000 |
16,000 |
16,000 |
16,000 |
Discount rate |
15% |
15% |
15% |
15% |
15% |
15% |
Discount |
1.0000 |
0.8696 |
0.7561 |
0.6575 |
0.5718 |
0.4972 |
Discounted net cash flow at 15% |
-50,000 |
13,913 |
12,098 |
10,520 |
9,148 |
7,955 |
NPV |
3,634 |
|||||
Discount rate |
18% |
18% |
18% |
18% |
18% |
18% |
Discount |
1.0000 |
0.8475 |
0.7182 |
0.6086 |
0.5158 |
0.4371 |
Discounted net cash flow at 18% |
-50,000 |
13,559 |
11,491 |
9,738 |
8,253 |
6,994 |
NPV |
35 |
|||||
Discount rate |
18.03% |
18.03% |
18.03% |
18.03% |
18.03% |
18.03% |
Discount |
1.0000 |
0.8472 |
0.7178 |
0.6082 |
0.5153 |
0.4366 |
Discounted net cash flow at 18% |
-50,000 |
13,556 |
11,485 |
9,731 |
8,244 |
6,985 |
NPV |
1 |
D) Memo to the project manager
Memorandum
To,
The project manager
From,
Name
Date,
24-Mar-2020
Subject:
Based on my analysis, I find that the investment in the boring machine can be undertaken. I am basing this decision on the IRR calculated, which is around 18.03%, which is more than the required IRR of 15%.
sercises 16.1 The SBX Construction Company is considering an investment of $50,000 for a horizontal boring...
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