Question

Fox Films is considering some new equipment whose data are shown below. The equipment has a 3-year tax life and would be depreciated by the MACRS method using the following rates (.3333,.4445,.1481,.0741). The equipment would have a pre-tax salvage value at the end of Year 3 shown below when the project would be closed down. Also, some new working capital would be required. Revenues and other operating costs are expected to be constant over the project's 3-year life. What is the project's NPV? What is the IRR? Should the project be accepted?

WACC	9.0%
Net investment in fixed assets (depreciable basis)	$100,000
Required new working capital	$15,000
Depreciation rates	given above
Increased Sales, each year	$85,000
Increased Operating costs (excl. deprec.), each year	$40,000
Expected pretax salvage value	$10,000
Tax rate	35.0%

Answer 1

Annual cash flow for each year, terminal year cash flow, NPV and IRR of project is calculated in excel and screen shot provided below:

B20 xNPV(9%,C18:E18) B18 1 Year 2 initial Investment 3 Working capital 4 5 Depreciation rate 6 Annual Depreciation 0 ($15,000) 33.33% 44.45%) 14.81% 7.41% $33,330 $44,450$14,810 $7,410 8 Annual Revenue 9 Operating cost 10 Total Annual Cost 11 Profit Before tax 12 13 Tax @35% 14 Net profit 15 16 After tax salvage value 17 Return of Working capital 18 Total Cash flow 19 $85,000 $85,000 $40,000 40,000 $40,000 $54,810 $73,330 $11,670 $84.450 $550$30,190 $4,084.50$192.50 $10,566.50 $19,624 $7,586 $358 $9,094 $15,000 ($115,000) $40,916 $44,808$58,527 20 [Net Present Value $5,444.31 11.48% 21 Internal Rate of return

NPV of project is $5,444.31 and IRR of project is 11.48%.

Since, NPV of project is a positive value, so project should be accepted.