Question

You are working on a bid to build two city parks a year for the next three years. This project requires the purchase of $273,000 of equipment that will be depreciated using straight-line depreciation to a zero book value over the three-year project life. Ignore bonus depreciation. The equipment can be sold at the end of the project for half of what you paid for it. You will also need $23,000 in net working capital for the duration of the project. The fixed costs will be $64,500 a year and the variable costs will be $101,000 per park. Your required rate of return is 16 percent and your tax rate is 21 percent.

e. Find bid price per park, using the OCF you found in the question above.

Bid per park is $

Answer 1

Tax rate		21%
Calculation of annual depreciation
Depreciation		Year-1	Year-2	Year-3			Total
Cost		$       273,000	$      273,000	$       273,000
Dep Rate		33.33%	33.33%	33.33%
Depreciation	Cost * Dep rate	$         91,000	$        91,000	$         91,000			$       273,000
Calculation of after-tax salvage value
Cost of machine			$      273,000
Depreciation			$      273,000
WDV	Cost less accumulated depreciation		$                -
Sale price	Half of the purchase price		$      136,500
Profit/(Loss)	Sale price less WDV		$      136,500
Tax	Profit/(Loss)*tax rate		$        28,665
Sale price after-tax	Sale price less tax		$      107,835
Calculation of annual operating cash flow
		Year-1	Year-2	Year-3
Sale		$                 -	$                -	$                 -
Less: Operating Cost		$       101,000	$      101,000	$       101,000
Contribution		$     (101,000)	$     (101,000)	$     (101,000)
Less: Fixed cost		$         64,500	$        64,500	$         64,500
Less: Depreciation		$         91,000	$        91,000	$         91,000
Profit before tax (PBT)		$     (256,500)	$     (256,500)	$     (256,500)
Tax@21%	PBT*Tax rate	$       (53,865)	$       (53,865)	$       (53,865)
Profit After Tax (PAT)	PBT - Tax	$     (202,635)	$     (202,635)	$     (202,635)
Add Depreciation	PAT + Dep	$         91,000	$        91,000	$         91,000
Cash Profit after-tax		$     (111,635)	$     (111,635)	$     (111,635)
Calculation of NPV
						16.00%
Year		Capital	Working capital	Operating cash	Annual Cash flow	PV factor	Present values
0		$     (273,000)	$       (23,000)		$     (296,000)	1.0000	$(296,000.00)
1			$                -	$     (111,635)	$     (111,635)	0.8621	$ (96,237.07)
2			$                -	$     (111,635)	$     (111,635)	0.7432	$ (82,962.99)
3		$       107,835	$        23,000	$     (111,635)	$         19,200	0.6407	$    12,300.63
					Net Present Value		$(462,899.43)
So the after-tax bid price and its PV should be equal to $ 462,899.43
Sum of PV factor for year 1-3	0.8621+0.7432+0.6407
Sum of PV factor for year 1-3	2.2459
Assumed Bid price per park	B
So PV of revenue in 3 years after the tax	B*2*2.2459*(1-21%)
So PV of revenue in 3 years after the tax	B*3.548522
B*3.548522=	$       462,899.43
B=	462899.43/3.548522
So Bid price per park=	$       130,448.52