Question

The Freeman Manufacturing Company is considering a new investment. Financial projections for the investment are tabulated below. The corporate tax rate is 40 percent. Assume all sales revenue is received in cash, all operating costs and income taxes are paid in cash, and all cash flows occur at the end of the year. All net working capital is recovered at the end of the project.

	Year 0		Year 1		Year 2		Year 3		Year 4
Investment	$	33,000
Sales revenue			$	17,000	$	17,500	$	18,000	$	15,000
Operating costs				3,600		3,700		3,800		3,000
Depreciation				8,250		8,250		8,250		8,250
Net working capital spending		390		440		490		390		?
a. compute the incremental net income of the investment for each year (year 1- year 4). b. Compute the incremental cash flows of the investment for each year (year 0- year 4). c. Suppose the appropriate discount rate is 11 percent. What is the NPV of the project?

Answer 1

Freeman	Year 0	Year 1	Year 2	Year 3	Year 4
Investment	-33,000
NWC	-390	-440	-490	-390	1710
Sales		17,000	17,500	18,000	15,000
Costs		3,600	3,700	3,800	3,000
Depreciation		8,250	8,250	8,250	8,250
EBT		5,150	5,550	5,950	3,750
Tax (40%)		-2,060	-2,220	-2,380	-1,500
Net Income		3,090	3,330	3,570	2,250
Cash Flows	-33,390	10,900	11,090	11,430	12,210
NPV	$1,831.34

Net Income = (Sales - Costs - Depreciation) x (1 - tax rate)

Cash Flows = Net Income + Depreciation + NWC + Investment

NPV can be calculated using NPV function in excel or calculator using 11% discount rate.