Question

SI Inc has an investment opportunity to produce baseball caps. The required initial investment on equipment...

SI Inc has an investment opportunity to produce baseball caps. The required initial investment on equipment is $9,000. The firm will depreciate the equipment on a straightline basis to zero salvage value over the three-year life of the project. The equipment can be sold at the end of the project life for 30% of its purchase price. Sales is expected to be $7,000 each year and the variable costs are expected to be 40% of the sales revenue each year. Fixed costs will be $500 each year. Interest expense will be $600 each year. The firm has already incurred $1,800 on the initial marketing feasibility study for this project. An investment in working capital of $400 is required at the start of the project. Subsequently, the total working capital investment will be 10% of sales. Investment in working capital is fully recovered in the final year of the project. If the firm takes on this project, the cash flows from the firm’s existing division will decrease by $300 each year. Calculate the NPV of this project if the required rate of return is 10%. The firm’s tax rate is 21%.

Homework Answers

Answer #1
Tax = 12% 0 1 2 3
RoR = 10% Year 0 Year 1 Year 2 Year 3
Equipment -9000
Depreciation 3000 3000 3000
Salvage (30%) 2700
Sales Revenue 7000 7000 7000
Variable cost (40%) -2800 -2800 -2800
Fixed Cost -500 -500 -500
Intrest Expense -600 -600 -600
Marketing Project -1800
Initial working capital -400
Working Capital (10%) -700 -700 -700
Decrease in cash flow -300 -300 -300
Depreciation Tax benefit 360 360 360
Total -11200 2460 2460 5160
NPV -11200 2236 2033.1 3877
NPV Total -3054
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