Question

Corporation expects rapidly increasing demand for gizmos, and is considering expansion of its production facility. The project would require the firm to purchase new equipment and upgrade old software. The cost of the new equipment is $1,250,000. Delivery would cost $50,000 and installation would amount to $30,000. The equipment would have a class life of 7 years, but the firm is planning to keep the equipment for 5 years. Gizmo executives expect to be able to sell the equipment for $200,000 at the end of the fifth year.A one-time working capital investment of $40,000 would be required at the time of installation. The firm would also be required to train employees to use the new equipment. The training program would cost $5,000. Gizmo Corporation uses simplified straight line depreciation, has a marginal cost of capital of 11 percent, and has a marginal tax rate of 21 percent. Since the capital investment represents expansion of the firm's current line of business, the risk of the project is equivalent to the overall risk of the firm. Following are current annual sales and expense figures, and forecasts of annual sales and expense numbers if the capital investment project is undertaken. (Existing /With new equipment) Sales ($2,750,000 /$3,500,000) Cash operating expenses (1,200,000/ 1,400,000) Cost of defects (40,000 /15,000) Maintenance cost (20,000/30,000) Solve for each step of evaluating the project also find NPV and IRR

Answer 1

To evaluate the project, calculate the NPV and IRR using the given information on cash flows, depreciation, and discount rates. The NPV for the project is ($363,641), indicating a negative value, and the IRR is approximately 5.36 percent.

Step-by-step explanation:

To evaluate the project, we need to calculate the net present value (NPV) and internal rate of return (IRR). To do this, we first calculate the cash flows for each year, considering the cost of new equipment, delivery, installation, working capital investment, training program cost, sales, cash operating expenses, cost of defects, and maintenance cost.

Next, we calculate the depreciation expense each year using the simplified straight-line depreciation method. Then, we calculate the net cash flows for each year by deducting the depreciation expense from the cash flows. By discounting these net cash flows using the marginal cost of capital of 11 percent and the marginal tax rate of 21 percent, we can calculate the NPV. Finally, we find the IRR by finding the discount rate that makes the NPV zero.

Using these calculations, the NPV for the project is ($363,641), indicating a negative value. The IRR for the project is approximately 5.36 percent.