Question

Calculating Project NPV Esfandairi Enterprises is considering a new three-year expansion project that requires an initial fixed asset investment of $2.18 million. The fixed asset will be depreciated straight-line to zero over its three year tax life, after which time it will be worthless. The project is estimated to generate $1.645 million in annual sales, with costs of $610,000. The required return is 12 percent. If the tax rate is 21 percent, what is the project's NPV? 4. Calculating Project Cash Flow from Assets In the previous problem, suppose the project requires an initial investment in net working capital of $250,000 and the fixed asset will have a market value of $180,000 at the end of the project. What is the project's Year 0 net cash flow? Year 1? Year 2? Year 3? What is the new NPV?

Answer 1

To calculate the project's NPV, subtract the initial investment from the present value of the cash flows. The annual cash flows are the sales revenue minus costs. The present values of each year's cash flow are determined by dividing the cash flow by (1+ required return rate)^n, where n is the year number. Finally, sum up the present values to find the NPV.

Step-by-step explanation:

To calculate the project's NPV, we need to calculate the present value (PV) of the cash flows generated by the project and subtract the initial investment. In this case, the cash flows include the annual sales revenue and the tax shield from depreciation.

Here are the steps to calculate the project's NPV:

1. Calculate the annual cash flows by subtracting the costs from the sales revenue: $1.645 million - $610,000 = $1.035 million.
2. Calculate the tax shield from depreciation by multiplying the depreciation expense ($2.18 million / 3 years) by the tax rate: ($2.18 million / 3) * 0.21 = $0.726 million.
3. Calculate the after-tax cash flows by subtracting the tax shield from the annual cash flows: $1.035 million - $0.726 million = $0.309 million.
4. Calculate the present value of each year's cash flow using the required return rate of 12%:
5. Sum up the present values of all the cash flows:

Therefore, the project's NPV is -$1.438 million.