Question

Healthy Food Inc. is considering introducing a new line of dried flowers. The firm expects to be able to generate $ 4 million in revenue from this new line, each year for the next 10 years, Customers who come to buy the flowers are expected to buy the firm's traditional offerings (fresh fruit and baked goods) and it is anticipated that the annual revenue on these goods will increase as a result of these extra purchases from $14 million to $17 million, as a consequence. The firm has a 60% pre tax operating margin on all of its products. Assuming a 8-year life. A 10% cost of capital, a 40% tax rate and no salvage value or depreciation. What is the present value of this project when the side benefits are considered.

Answer 1

Revenue from the new line	$         4,000,000
Additional revenue from the traditional line	$         3,000,000
Total incremental revenue	$         7,000,000
Pretax operating margin (60%)	$         4,200,000
Tax at 40%	$         1,680,000
After tax annual cash flows	$         2,520,000
PV of after tax cash flows at 10% = 2520000*(1.1^8-1)/(0.1*1.1^8) =	$      13,444,014
NOTE: The project life is taken as 8 years as given in the end,
eventhough it is mentioned that the new line would be able
to generate revenue from new line for 10 years.