Question

Question 8 --/2 View Policies Current Attempt in Progress Sandhill Company is considering buying a new farm that it plans to operate for 10 years. The farm will require an initial investment of $12.10 million. This investment will consist of $2.20 million for land and $9.90 million for trucks and other equipment. The land, all trucks, and all other equipment are expected to be sold at the end of 10 years for a price of $5.10 million, which is $2.15 million above book value. The farm is expected to produce revenue of $2.10 million each year, and annual cash flow from operations equals $1.90 million. The marginal tax rate is 35 percent, and the appropriate discount rate is 10 percent. Calculate the NPV of this investment. (Do not round factor values. Round final answer to 2 decimal places, e.g. 15.25.) NPV $ The project should be

Answer 1

The initial investment is $12.10 million for 10 years. The sale price of land, trucks and other equipment at the end of 10 years is $5.10 million and the sale price is $2.15 million above the book value. The cash flow from operations is $1.9 million. The tax rate is 35% and the discount rate is 10%. Calculate the after-tax salvage value. After-tax salvage value = Sale price – (Profit on sale x Tax rate) = $5,100,000 – ($2,150,00035%) = $5,100,000 - $752,500 = $4,347,500

Period The after-tax salvage value is $4,347,500. The present value of after-tax salvage value is _Salvage value (1+rate) Perio $1,676,149.45 $4,347,500 1.1010 The cash flows from operations is $1.9 million. Calculate the present value of cash flows from operations. Present value of cash flows = Cash flows x— 1-(1+rate) Period rate = $1,900,000x1-1.10-10 0.10 = $1,900,000 x 6.14457 = $11,674,677.50 Thus, the present value of operating cash flows is $11,674,677.50

Calculate the net present value (NPV). NPV = -Initial investment + Present value of operating cash flows +Present value of salvage value = -$12,100,000+ $11,674,677.50 + $1,676,149.45 = $1,250,826.95 Thus, the NPV is $1,250,826.95. The project should be accepted as the NPV is positive.