Question

Your company has been doing well, reaching $1.15 million in earnings, and is considering launching a new product. Designing the new product has already cost $510,000. The company estimates that it will sell 787,000 units per year for $2.93 per unit and variable non-labor costs will be $1.07 per unit. Production will end after year 3. New equipment costing $1.17 million will be required. The equipment will be depreciated using 100% bonus depreciation under the 2017 TCJA. You think the equipment will be obsolete at the end of year 3 and plan to scrap it. Your current level of working capital is $296,000. The new product will require the working capital to increase to a level of $389,000 immediately, then to $393,000 in year 1, in year 2 the level will be $352,000, and finally in year 3 the level will return to $296,000. Your tax rate is 21%. The discount rate for this project is 9.9%. Do the capital budgeting analysis for this project and calculate its NPV. Note: Assume that the equipment is put into use in year 1.

Answer 1

Answer is as follows: