Summer Tyme, Inc. has cash available and is considering a new three-year expansi

Question

Summer Tyme, Inc. has cash available and is considering a new three-year expansion project that requires an initial fixed asset investment of $3.9 million. The fixed assets will be depreciated straight-line to zero over its three-year tax life. The fixed assets will have a market value of $200,000 at the end of the project. The project is estimated to generate following revenues during those three years: $2,000,000 for year one, $2,500,000 for year two, and $3,000,000 for year three. Costs are equal to 20% of the same year sales. The project net working capital is equal to 10% of the next year's revenue.    The tax-rate is 35%. What are the project

Summer Tyme, Inc. has cash available and is considering a new three-year expansion project that requires an initial fixed asset investment of $3.9 million. The fixed assets will be depreciated straight-line to zero over its three-year tax life. The fixed assets will have a market value of $200,000 at the end of the project. The project is estimated to generate following revenues during those three years: $2,000,000 for year one, $2,500,000 for year two, and $3,000,000 for year three. Costs are equal to 20% of the same year sales. The project net working capital is equal to 10% of the next year's revenue. The tax-rate is 35%. What are the project's net cash flows for years 0-3? What is the IRR on this project?

Explanation / Answer

Revenue t=1 $          2,000,000 Revenue t=2 $          2,500,000 Revenue t=3 $          3,000,000 Investment $          3,900,000 Final Book Value FA Sale value $             200,000 NWC req't 10% Costs 20% Tax rate 35% Depr. Years 3 Year0 Year1 Year2 Year3 Revenue $                         -   $        2,000,000 $          2,500,000 $          3,000,000 Expenses $                         -   $            400,000 $             500,000 $             600,000 Depreciation $                         -   $ 1,300,000.00 $    1,300,000.00 $    1,300,000.00 EBIT $                         -   $      300,000.00 $       700,000.00 $    1,100,000.00 Net Income $                         -   $      195,000.00 $       455,000.00 $       715,000.00 CF from Operation $                         -   $ 1,495,000.00 $    1,755,000.00 $    2,015,000.00 NWC req't $     (200,000.00) Change in NWC $         (450,000) $             (50,000) $             300,000 CF from Investment $ (3,900,000.00) Total CF $ (4,100,000.00) $ 1,045,000.00 $    1,705,000.00 $    2,315,000.00 Project IRR 9.98% Problem 2 Year0 Year1 Year2 Year3 Total Cash flow $          (1,000.00) 400 450 500 Oppurtunity Cost of Capital 17% a) NPV ($17.20) b) Accept/ Reject Reject C) IRR 15.98%

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