Question

URGENTT

United Pigpen is considering a proposal to manufacture high-protein hog feed. The project would require use of an existing warehouse, which is currently rented out to a neighboring firm. The next year's rental charge on the warehouse is $170,000, and thereafter, the rent is expected to grow in line with inflation at 4% a year. In addition to using the warehouse, the proposal envisages an investment in plant and equipment of $1.62 million. This could be depreciated for tax purposes straight-line over 10 years. However, Pigpen expects to terminate the project at the end of 8 years and to resell the plant and equipment in year 8 for $540,000. Finally, the project requires an immediate investment in working capital of $420,000. Thereafter, working capital is forecasted to be 10% of sales in each of years 1 through 7. Working capital will be run down to zero in year 8 when the project shuts down. Year 1 sales of hog feed are expected to be $5.60 million, and thereafter, sales are forecasted to grow by 5% a year, slightly faster than the inflation rate. Manufacturing costs are expected to be 90% of sales, and profits are subject to tax at 25%. The cost of capital is 12%. What is the NPV of Pigpen's project? (Do not round intermediate calculations. Enter your answer in dollars not in millions, rounded to the nearest whole dollars.) NPV

Answer 1

Rent = $170,000 - Rental charges would be treated as expense even though it is owned because of a opportunity costs. [...) If project is not under taken united pijpen would get Rental Income of $ 140,000 hence this is an opportunity Income loss. Inflation = 4%, so rental expenses in the up coming years would be as follows: year 1 = 140,000 year 2 = 170,000+ 4% = 116,800 year 3=116,800 +4% =$183,872 4 = 183,872 +45). = $ 191,286.88 SE 191,226-88+4). - $ 198,875.96 Year 6= 198,875.96+4% = $206,830.99 Ucar 7 = 206830.99+4% = $215, 104.23 ears = 215,104-23 +71. - $223,708.40 Depreciation - Cost of plant and Equipment- $1,620000 number of years loyears Depreciation per year = 1,620,000 10 = $162,000

and Calculation of Book value after syears Tax on capital gain : - Depreciation up to y lay 8 = 8x 162,000 - 1,296,000 Book value = cost - Depreciation. - 1,620,000 - 1296000 = $ 324,000 Sale value = 540,000 less: Book value = 324 000 216,000 capital gain Tax on capital gain = 216,000 y 25.%. = $ 54,000 out flow & of cash P.V NPv=-P. V cash of all Inglows

Year	0	1	2	3	4	5	6	7	8
Sales		5600000	5880000	6174000	6482700	6806835	7147177	7504536	7879762
growth rate		5%	5%	5%	5%	5%	5%	5%
less:Manufacturing costs(90% 0f sales)		5040000	5292000	5556600	5834430	6126152	6432459	6754082	7091786
less:Depreciation		162000	162000	162000	162000	162000	162000	162000	162000
less:Rent		170000	176800	183872	191227	198876	206831	215104	223708
Earnings before taxes		228000	249200	271528	295043	319808	345887	373349	402268
less:tax @ 25%		57000	62300	67882	73761	79952	86472	93337	100567
Earnings after taxes		171000	186900	203646	221282	239856	259415	280012	301701
Add:Depreciation		162000	162000	162000	162000	162000	162000	162000	162000
cash flow from operations		333000	348900	365646	383282	401856	421415	442012	463701
Working capital(10% of sales)	420,000	560,000	588,000	617,400	648,270	680,684	714,718	750,454
less:change in working capital	420,000	140,000	28,000	29,400	30,870	32,414	34,034	35,736	-750,454
initial investment	1,620,000
Add:salvage value									540,000
less:tax on capital gain									54,000
Net Cash Flow	-2,040,000	193,000	320,900	336,246	352,412	369,442	387,381	406,276	1,700,154
Discount factor(12%)	1	0.892857143	0.797193878	0.711780248	0.635518078	0.567426856	1.973822685	0.452349215	0.403883228
Discounted cash flows	-2040000	172321	255820	239333	223964	209631	764621	183779	686664
NPV	696134

so NPV = $696,134

Note : all values are rounded off to nearest dollar)