Telecom Italia is considering the investment in a capital project. The initial cost in year 0...
Telecom Italia is considering the investment in a capital project. The initial cost in year 0 is $130,000 to be depreciated straight over 5 years to an expected salvage value of $15,000. The firm’s tax rate is 35% and it has a 10% cost of capital (the firm's discount rate, or "hurdle" rate). For this project an additional investment in working capital of $12,000 is required and it will be recovered in full at the end of the project’s life. The project will generate additional revenues of $55,000 in year 1 and these revenues will grow annually at a rate of 14%. The additional expenses of the project will be $20,000 in year 1 and will grow annually at 7%. What is the NPV and IRR for this project?
Homework Answers
| Tax rate | 35% | |||||||
| Cost | $ 130,000 | |||||||
| Salvage value | $ 15,000 | |||||||
| Depreciable value | $ 115,000 | |||||||
| Calculation of annual depreciation | ||||||||
| Depreciation | Year-1 | Year-2 | Year-3 | Year-4 | Year-5 | Total | ||
| Depreciable value | $ 115,000 | $ 115,000 | $ 115,000 | $ 115,000 | $ 115,000 | |||
| Dep Rate | 20.00% | 20.00% | 20.00% | 20.00% | 20.00% | |||
| Depreciation | Cost * Dep rate | $ 23,000 | $ 23,000 | $ 23,000 | $ 23,000 | $ 23,000 | $ 115,000 | |
| Calculation of after-tax salvage value | ||||||||
| Cost of machine | $ 130,000 | |||||||
| Depreciation | $ 115,000 | |||||||
| WDV | Cost less accumulated depreciation | $ 15,000 | ||||||
| Sale price | $ 15,000 | |||||||
| Profit/(Loss) | Sale price less WDV | $ - | ||||||
| Tax | Profit/(Loss)*tax rate | $ - | ||||||
| Sale price after-tax | Sale price less tax | $ 15,000 | ||||||
| Calculation of annual operating cash flow | ||||||||
| Year-1 | Year-2 | Year-3 | Year-4 | Year-5 | ||||
| Sale | $ 55,000 | $ 62,700 | $ 71,478 | $ 81,485 | $ 92,893 | |||
| Less: Operating Cost | $ 20,000 | $ 21,400 | $ 22,898 | $ 24,501 | $ 26,216 | |||
| Contribution | $ 35,000 | $ 41,300 | $ 48,580 | $ 56,984 | $ 66,677 | |||
| Less: Depreciation | $ 23,000 | $ 23,000 | $ 23,000 | $ 23,000 | $ 23,000 | |||
| Profit before tax (PBT) | $ 12,000 | $ 18,300 | $ 25,580 | $ 33,984 | $ 43,677 | |||
| Tax@35% | PBT*Tax rate | $ 4,200 | $ 6,405 | $ 8,953 | $ 11,894 | $ 15,287 | ||
| Profit After Tax (PAT) | PBT - Tax | $ 7,800 | $ 11,895 | $ 16,627 | $ 22,090 | $ 28,390 | ||
| Add Depreciation | $ 23,000 | $ 23,000 | $ 23,000 | $ 23,000 | $ 23,000 | |||
| Cash Profit after-tax | PAT + Dep | $ 30,800 | $ 34,895 | $ 39,627 | $ 45,090 | $ 51,390 | ||
| Calculation of NPV | ||||||||
| 10.00% | ||||||||
| Year | Capital | Working capital | Operating cash | Annual Cash flow | PV factor | Present values | ||
| 0 | $ (130,000) | $ (12,000) | $ (142,000) | 1.0000 | $ (142,000) | |||
| 1 | $ 30,800 | $ 30,800 | 0.9091 | $ 28,000 | ||||
| 2 | $ 34,895 | $ 34,895 | 0.8264 | $ 28,839 | ||||
| 3 | $ 39,627 | $ 39,627 | 0.7513 | $ 29,772 | ||||
| 4 | $ 45,090 | $ 45,090 | 0.6830 | $ 30,797 | ||||
| 5 | $ 15,000 | $ 12,000 | $ 51,390 | $ 78,390 | 0.6209 | $ 48,674 | ||
| Net Present Value |
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