Question

Esfandairi Enterprises is considering a new three-year expansion project that requires an initial fixed asset investment of $2.18 million. The fixed asset falls into the three-year MACRS class (MACRS schedule). The project is estimated to generate $1,730,000 in annual sales, with costs of $636,000. The project requires an initial investment in net working capital of $290,000, and the fixed asset will have a market value of $240,000 at the end of the project.

a. If the tax rate is 24 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, rounded to two decimal places, e.g., 1,234,567.89.)

b.If the required return is 12 percent, what is the project's NPV? (Do not round intermediate calculations and enter your answer in dollars, not millions of dollars, rounded to two decimal places, e.g., 1,234,567.89.)

Answer 1

The Year 0 net cash flow for Esfandairi Enterprises' project is -$2.47 million. To calculate net cash flows for Years 1-3 and the project's NPV, one would need the MACRS depreciation percentages and additional information on operating profits, tax effects, and other variables that are not provided.

Step-by-step explanation:

To calculate the Year 0 net cash flow for Esfandairi Enterprises' project, we need to consider the initial fixed asset investment and the initial net working capital requirement. The initial fixed asset investment is $2.18 million, and the initial net working capital is $290,000. Therefore, the Year 0 net cash flow is the sum of these two outflows, which is $2.18 million + $290,000 = -$2.47 million.

For Year 1, Year 2, and Year 3 net cash flows, we need to consider the annual sales, costs, depreciation (based on the three-year MACRS schedule), and the tax effects. However, to provide accurate calculations for these years, more detailed information is needed, such as the specific MACRS percentages for the three-year class and the calculations of depreciation, operating profit, taxes, and any additional working capital or salvage value considerations at the end of the project.

As for the project's NPV (Net Present Value), it would require calculating the present value of all future net cash flows of the project (including terminal cash flow at the end of Year 3, which should account for the fixed asset's market value and the recovery of net working capital) and subtracting the initial investment. These cash flows would be discounted using the required return of 12 percent. Without the exact figures and MACRS depreciation percentages, we cannot compute the exact NPV value.

Answer 2

To calculate the net cash flows for each year of the project, we need to consider the annual sales, costs, and tax rate. The project's NPV can be calculated using the required return rate to discount the net cash flows from each year.

Step-by-step explanation:

To calculate the net cash flows for each year of the project, we need to consider the annual sales, costs, and tax rate. We also need to account for the initial investment in fixed assets and net working capital, as well as the market value of the fixed asset at the end of the project.

a. Year 0 net cash flow:

Initial fixed asset investment: -2,180,000

Initial net working capital investment: -290,000

Year 0 net cash flow = -2,180,000 + (-290,000) = -2,470,000

Year 1 net cash flow:

Annual sales: 1,730,000

Costs: -636,000

Taxable income = Annual sales - Costs = 1,730,000 - 636,000 = 1,094,000

Taxes = Taxable income * Tax rate = 1,094,000 * 0.24 = 262,560

Depreciation expense = Initial fixed asset investment * MACRS rate for Year 1 = 2,180,000 * 0.3333 = 726,206.40

Year 1 net cash flow = Annual sales - Costs - Taxes + Depreciation expense = 1,730,000 - 636,000 - 262,560 + 726,206.40 = 1,557,646.40

Year 2 net cash flow:

Annual sales: 1,730,000

Costs: -636,000

Taxable income = Annual sales - Costs = 1,730,000 - 636,000 = 1,094,000

Taxes = Taxable income * Tax rate = 1,094,000 * 0.24 = 262,560

Depreciation expense = Initial fixed asset investment * MACRS rate for Year 2 = 2,180,000 * 0.4445 = 968,690.00

Year 2 net cash flow = Annual sales - Costs - Taxes + Depreciation expense = 1,730,000 - 636,000 - 262,560 + 968,690.00 = 1,800,130.00

Year 3 net cash flow:

Annual sales: 1,730,000

Costs: -636,000

Taxable income = Annual sales - Costs = 1,730,000 - 636,000 = 1,094,000

Taxes = Taxable income * Tax rate = 1,094,000 * 0.24 = 262,560

Depreciation expense = Initial fixed asset investment * MACRS rate for Year 3 = 2,180,000 * 0.1481 = 322,548.00

Year 3 net cash flow = Annual sales - Costs - Taxes + Depreciation expense + Market value of fixed asset at the end of the project = 1,730,000 - 636,000 - 262,560 + 322,548.00 + 240,000 = 1,393,988.00

b. To calculate the project's NPV, we need to use the required return rate and discount the net cash flows from each year. The formula for NPV is:

NPV = C0 + (C1 / (1 + r1)) + (C2 / (1 + r2)^2) + (C3 / (1 + r3)^3)

Where C0, C1, C2, and C3 are the net cash flows for Year 0, Year 1, Year 2, and Year 3, respectively, and r1, r2, and r3 are the required return rates for Year 1, Year 2, and Year 3, respectively.

NPV = -2,470,000 + (1,557,646.40 / (1 + 0.12)) + (1,800,130.00 / (1 + 0.12)^2) + (1,393,988.00 / (1 + 0.12)^3) = 2,204,412.03