Question

Down Under Boomerang, Inc., is considering a new 3-year expansion project that requires an initial fixed asset investment of $2.33 million. The fixed asset qualifies for 100 percent bonus depreciation. The project is estimated to generate $1,735,000 in annual sales, with costs of $640,000. The project requires an initial investment in net working capital of $300,000, and the fixed asset will have a market value of $255,000 at the end of the project. a. If the tax rate is 25 percent, what is the project’s Year 0 net cash flow? Year 1? Year 2? Year 3? (A negative answer should be indicated by a minus sign. Do not round intermediate calculations and enter your answers in dollars, not millions of dollars, e.g., 1,234,567.) b. If the required return is 9 percent, what is the project's NPV? (Do not round intermediate calculations and enter your answers in dollars, not millions of dollars, rounded to two decimal places, e.g., 1,234,567.89.)

Answer 1

Time line		0	1	2	3
Cost of new machine		-2330000
Initial working capital		-300000
=Initial Investment outlay		-2630000
						100.00%
Sales			1735000	1735000	1735000
Profits	Sales-variable cost		1095000	1095000	1095000
-Depreciation			-2330000	0	0	0	=Salvage Value
=Pretax cash flows			-1235000	1095000	1095000
-taxes	=(Pretax cash flows)*(1-tax)		-926250	821250	821250
+Depreciation			2330000	0	0
=after tax operating cash flow			1403750	821250	821250
reversal of working capital					300000
+Proceeds from sale of equipment after tax	=selling price* ( 1 -tax rate)				191250
+Tax shield on salvage book value	=Salvage value * tax rate				0
=Terminal year after tax cash flows					491250
a. Total Cash flow for the period		-2630000	1403750	821250	1312500
Discount factor=	(1+discount rate)^corresponding period	1	1.09	1.1881	1.295029
Discounted CF=	Cashflow/discount factor	-2630000	1287844.037	691229.6945	1013490.818
b. NPV=	Sum of discounted CF=	362564.55