Question

Parker & Stone, Inc., is looking at setting up a new manufacturing plant in South Park to produce garden tools. The company bought some land 5 years ago for $8 million in anticipation of using it as a warehouse and distribution site, but the company has since decided to rent these facilities from a competitor instead. If the land were sold today, the company would net $9.8 million. The company wants to build its new manufacturing plant on this land; the plant will cost $16.2 million to build, and the site requires $1,372,000 worth of grading before it is suitable for construction.

   

Required :

What is the proper cash flow amount to use as the initial investment in fixed assets when evaluating this project?

Answer 1

The cost incurred when the land was brought is sunk costs and wont be used in evaluating the intital investment in fixed assets.

Also, since the land wont be sold as the manufacturing plant is being set up on this land, the market value of land will also not be taken in decision making.

Initial Investment in fixed asserts will include cost to build manufacturing plant on this land and grading costs to make land suitable for construction.

Total Initial investment in fixed assets = $ 16,200,000 +$1,372,000 = $17,572,000