Domenico Raoelli Corporation (DRC) is considering a project where they would ope

Question

Domenico Raoelli Corporation (DRC) is considering a project where they would open a new facility in Seattle, Washington. The DRC’s Project Manager, Mrs. Laura Paoli, has assembled the following information regarding the proposed project:

• It would cost $500,000 today (at t = 0) to construct the new facility. The cost of the facility will be depreciated on a straight-line basis over five years.
• If DRC opens the facility, it will need to increase its inventory by $100,000 at t = 0. $70,000 of this inventory will be financed with accounts payable.
• The Project Manager has estimated that the project will generate the following amount of revenue over the next three years:

Year 1 Revenue = $1.0 million
Year 2 Revenue = $1.2 million
Year 3 Revenue = $1.5 million

• Operating costs excluding depreciation equal 70% of revenue.
• DRC plans to abandon the facility after three years. At t = 3, the project’s estimated salvage value will be $200,000. At t = 3, DRC will also recover the net operating working capital investment that it made at t = 0.
• The project’s cost of capital is 14%.
• The DRC’s tax rate is 40%.

What is the project’s modified internal rate of return (MIRR)?

Explanation / Answer

1YEAR------ CASH FLOW-------$280,000

2YEAR----------             ---$316,000

3YEAR----------             ---$370,000+ 200,000= $570,000

INITIAL COST= COST ($500,000)+ INVENTORY COST(30,000)=$530,000

T=3

CAPIATL --14%

1YEAR------ CASH FLOW-------$280,000(1+ 14%)^2

2YEAR----------             ---$316,000(1+ 14%)^2

3YEAR----------             ---= $570,000(1+ 14%)^0

=319200+360240+570000=1,249,440

modified internal rate of return (MIRR)= CUBE ROOT OF 1,249,440/$530,000 =

1.3309-1=33

33 PERCENT =ANSWER

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