Question

Consider a project to supply Detroit with 20,000 tons of machine screws annually for automobile production. You will need an initial $2,800,000 investment in threading equipment to get the project started; the project will last for 5 years. The accounting department estimates that annual fixed costs will be $750,000 and that variable costs should be $260 per ton; accounting will depreciate the initial fixed asset investment straight-line to zero over the 5-year project life. It also estimates a salvage value of $220,000 after dismantling costs. The marketing department estimates that the automakers will let the contract at a selling price of $370 per ton. The engineering department estimates you will need an initial net working capital investment of $280,000. You require a return of 11 percent and face a marginal tax rate of 25 percent on this project.

  

a-1	What is the estimated OCF for this project?

a-2	What is the estimated NPV for this project?

b.

Suppose you believe that the accounting department’s initial cost and salvage value projections are accurate only to within ±15 percent; the marketing department’s price estimate is accurate only to within ±10 percent; and the engineering department’s net working capital estimate is accurate only to within ±5 percent. What is the worst-case NPV for this project? The best-case NPV?

Answer 1