Question

Problem 16-2 E Griffin, the chief executive officer of Shore Lunch Enterprises, has assembled his top advisers, The Pike Group. to evaluate an investment opportunity. The advisers expect the company to pay $3,200,000 cash at the beginning of the investment and the cash inflow for each of the following four years to be the following Year 1 Year 2 Year 3 Year 4 $640,000 $800,000 $1,000,000 $1,600,000 E Griffin agrees with his advisers that the company should use the discount rate (required rate of retum) of 10% to compute not present value to evaluate the viability of the proposed project. REQUIRED 1. Compute the net present value of the proposed project. Should the company approve the project ? One of the advisers, AT Plaza, is wary of the cash flow forecast and she points out that the advisers failed to consider that the depreciation on equipment used in this project will be tax deductible. The depreciation is expected to be $640,000 per year for the four-year period. The company's income tax rate is 21% per year. Use this information to revise the company's expected cash flow from this project. 2. Compute the net present value of the project based on the revised cash flow forecast which should include the depreciation tax benefit discovered. Should the company approve the project? Set up a mini table of present value factors to make your calculations easier.

Answer 1

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alf Griffin NPV of project 1 Year Amount Calculation Present | Coutflows / Inflow of discount value Net factor factor Amount @ 10% @ 10% | C C ) in (B) (C=B) 10 = AXC) Yearo <$3200000). (3200oods year! $640000 Y 0.9090 581960 yeas 2 $800000 21:1)2 0.8264 661120 Year 3 to $1,000,000 V1.13 0.7513 751,300 year 4 $ 1600000 1.14 0.68301092800 Net present value - $(113,020) Net present valese ces negetive $143020 Conclusion : Rejeck the project as cashflowe i negetive - VD

» NPU with additional Polosmaton Saving in Patozof income tax: Depreciation = $640,000 Income tax = 2% Saving in cost => $1344007 (due to a reduction in income tax due to depreciation expense) ($640000 X212) Net present Value year Amount saving Net Sau tax ani Present value Net amount Han flow factor Oy (A) (B) (C=A+B) De E=CXD year Yearl Yeas 2 ($3,200000) - ($3200000) i ($3200000). $6.40000 $134,400 $774900 0.9090 $703930 $800000 $134.400 $939900 0.8264 $772118 $1000000 $134,400 $11394.00 0.7513 $852275 $1600000 $139400 $1734,400 0.6830 $1,184595 NOY - → $285918 year 3 year

Conclusion , Nel present waleco wis positive $285918 Hence approve the project