Question

Quad Enterprises is considering a new three-year expansion project that requires an initial fixed asset investment of $2.46 million. The fixed asset falls into the three-year MACRS class. The project is estimated to generate $2,000,000 in annual sales, with costs of $711,000. The project requires an initial investment in net working capital of $220,000, and the fixed asset will have a market value of $300,000 at the end of the project.

1. If the tax rate is 35 percent, what is the project's Year 0 net cash flow?
2. If the required return is 16%, what is the project's NPV?

Answer 1

1) initial outlay = $2,460,000 + $220,000 = $2,680,000

2)

depreciation expense year 1 = $819,918

depreciation expense year 2 = $1,093,470

depreciation expense year 2 = $364,326

book value at end of year 3 = $182,286

net cash flow year 1 = [($2,000,000 - $711,000 - $819,918) x 0.65] + $819,918 = $1,124,821.30

net cash flow year 2 = [($2,000,000 - $711,000 - $1,093,470) x 0.65] + $1,093,470 = $1,220,564.50

net cash flow year 3 = [($2,000,000 - $711,000 - $364,326) x 0.65] + $364,326 = $965,364.10

terminal value (year 3) = [($182,286 - $300,000) x .65] + $220,000 = $143,485.90

NPV = -$92,854.95