You are evaluating a project for your company. You estimate the sales price to b

Question

You are evaluating a project for your company. You estimate the sales price to be $620 per unit and sales volume to be 3,200 units in year 1; 4,200 units in year 2; and 2,700 units in year 3. The project has a three-year life. Variable costs amount to $420 per unit and fixed costs are $260,000 per year. The project requires an initial investment of $385,000 in assets which will be depreciated straight-line to zero over the three-year project life. The actual market value of these assets at the end of year 3 is expected to be $62,000. NWC requirements at the beginning of each year will be approximately 25 percent of the projected sales during the coming year. The tax rate is 34 percent and the required return on the project is 10 percent. What change in NWC occurs at the end of year 1?

$155,000

$276,210

$418,500

$102,300

Explanation / Answer

Sales for year 1 = 3200 units x $620 = $1,984,000

Sales for year 2 = 4200 units x $620 = $2,604,000

NWC required at the beginning of year 1 = Sales for year 1 x 25% = $1,984,000 x 25% = $496,000

NWC required at the end of year 1 = Sales for year 2 x 25% = $2,604,000 x 25% = $651,000

Change in NWC = $651,000 - $496,000 = $155,000

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