Question

Your small company is considering producing a new line of orange flavored soft drink. This project is expected to generate additional revenues of $220,000 and additional costs of $100,000 per year for 5 years (years 1 – 5). Undertaking the project will require an increase in the company’s net working capital (inventory) of $30,000 today (year 0). At the end of the project (year 5), inventory will return to the original level. Fixed assets needed for the project would cost $350,000. Assets will depreciate straight line to $50,000 (the market value of the assets at the end of the project, which will be sold). The marginal tax rate is 10%. The weighted average cost of capital (interest rate) for the firm is 8%.

What is the present value of this project?

The answer is 129,615.60 but I don't know to get that answer. I answered all the other questions correctly such as cost of the project and the cash flow in year 1 -4.

Answer #1

Orange | 0 | 1 | 2 | 3 | 4 | 5 |

Investment | -350,000 | |||||

NWC | -30,000 | 30,000 | ||||

Salvage | 50,000 | |||||

Sales | 220,000 | 220,000 | 220,000 | 220,000 | 220,000 | |

Costs | -100,000 | -100,000 | -100,000 | -100,000 | -100,000 | |

Depreciation | -60,000 | -60,000 | -60,000 | -60,000 | -60,000 | |

EBT | 60,000 | 60,000 | 60,000 | 60,000 | 60,000 | |

Tax (10%) | -6000 | -6000 | -6000 | -6000 | -6000 | |

Net Income | 54,000 | 54,000 | 54,000 | 54,000 | 54,000 | |

Cash Flows | -380,000 | 114,000 | 114,000 | 114,000 | 114,000 | 194,000 |

NPV | $129,615.60 |

Depreciation = (350,000 - 50,000) / 5 = 60,000

Cash Flows = Investment + NWC + Salvage + Net Income + Depreciation

NPV can be calculated using the same function in excel or calculator with 8% discount rate.

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