We are evaluating a project that costs $829,000, has an nine-year life, and has

Question

We are evaluating a project that costs $829,000, has an nine-year life, and has no salvage value. Assume that depreciation is straight-line to zero over the life of the project. Sales are projected at 113,000 units per year. Price per unit is $37, variable cost per unit is $21, and fixed costs are $845,580 per year. The tax rate is 37 percent, and we require a 20 percent return on this project. The projections given for price, quantity, variable costs, and fixed costs are all accurate to within +/- 13 percent.

Required:

(a) Calculate the best-case NPV. (Do not round your intermediate calculations.)

(b) Calculate the worst-case NPV. (Do not round your intermediate calculations.)

Explanation / Answer

COST OF PROJECT=$8,29,000

LIFE=9 YEARS

DEPRECIATION=$8,29,000/9=$92,111

SALES UNITS=1,13,000 UNITS PER YEAR

PRICE PER UNIT=$37

VARIABLE COST PER UNIT=$21

CALCULATION OF NET CASH INFLOW

SALES=1,13,000*$37 =$41,81,000

LESS:VARIABLE COST=1,13,000*$21=$23,73,000

LESS:FIXED COST =$8,45,580

$9,62,420

LESS:DEPRECIATION =$ 92,111

TAXABLE INCOME =$ 8,70,309

TAX RATE=37% =$ 3,22,014

INCOME AFTER TAX =$ 5,48,295

ADD:DEPRECIATION =$   92,111

NET CASH INFLOW =$ 6,40,406

RATE OF RETURN=20%

AFTER TAX RATE OF RETURN=20%-37%=12.6%

PRESENT VALUE FACTOR @12.6% FOR 9 YEARS=5.209

PRESENT VALUE OF NET CASH INFLOW=$6,40,406*5.209=$33,35,875

NPV=PRESENT VALUE OF NET CASH INFLOW-INITIAL COST

=$33,35,875-$8,29,000

=$25,06,875

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