Question

17. Hand Clapper, Inc. is considering a 4-year project to manufacture clap-command garage door openers. The project requires an initial investment of $18 million in machinery that will be depreciated using 3-year MACRS. The 3-year MACRS depreciation rates by year are Year 1 - 33.33%; Year 2 - 44.45%; Year 3 - 14.81%; and Year 4: 7.41%. The machinery will have no salvage value at the end of 4 years and will be housed in a rented facility. Last year, Hand Clapper paid rent of $500,000 to use the facility for the next four years. Hand Clapper has been offered $600,000 to sublet the property for the next 4 years. The project also requires an initial investment (i.e., an investment today) in net working capital of $950,000; Hand Clapper will fully recover this amount at the end of the project. The company believes that on an annual basis it can generate $12.4 million in revenues with $4.5 million of costs. The tax rate is 21% and the discount rate is 13%. a. What is the clap-command garage door opener project's NPV? You must show your work.

please do the work by hand, use the formula from the formula sheet

Answer 1

a) working note

calculation of depreciation
amt	rate	depreciation
18000000	33.33%	5999400
18000000	44.45%	8001000
18000000	14.81%	2665800
18000000	7.41%	1333800
calculation of opportunity cost
600000-500000=100000

Rent of $500000 is paid last year, therefore it is sunk cost.

Calculation of NPV
	0	1	2	3	4
outflow
Initial inv	18000000	0	0	0	0
working cap	950000	0	0	0	0
rent	0	0	0	0	0
cost	0	4500000	4500000	4500000	4500000
depreciation		5999400	8001000	2665800	1333800
opportunity cost	100000	0	0	0	0
Total outflow	19050000	10499400	12501000	7165800	5833800
Inflow
Revenue	0	12400000	12400000	12400000	12400000
Working capital realised	0	0	0	0	950000
Total inflow	0	12400000	12400000	12400000	13350000
Inflow-outflow	-19050000	1900600	-101000	5234200	7516200
tax rate	21%	21%	21%	21%	21%
total tax	0	1501474	0	4135018	5937798
Add depreciation		5999400	8001000	2665800	1333800
Net cash flow	-19050000	6398526	7900000	3764982	2912202
Discount rate	13%	13%	13%	13%	13%
	1	0.885	0.783	0.693	0.6133
	-19050000	5662696	6185700	2609133	1786053
NPV	-2806418

b) Value of project at the end of 3rd year : -19050000+5662696+6185700+2609133= -4592472

if abandoned & machine is sold for $9.9 million

-4592472+9900000= 5307528

Time in which project should be completed:

Discounted payback period

3 years +(13*4592472)/1786053=36.43 months

3+3 years = 6 years

Company should continue to manufacture for 6 years.