Please answer all four parts. Fox Co. is considering an investment that will hav
ID: 2718734 • Letter: P
Question
Please answer all four parts.
Fox Co. is considering an investment that will have the following sales, variable costs, and fixed operating costs: This project will require an investment of $25,000 in new equipment. The equipment will have no salvage value at the end of the project's four-year life. Fox pays a constant tax rate of 40%, and it has a weighted average cost of capital (WACC) of 11%. Determine what the project's net present value (NPV) would be when using accelerated depreciation. Determine what the project's net present value (NPV) would be when using accelerated depreciation. $43,462 $36,218 $28,974 $41,651 Now determine what the project's NPV would be when using straight-line depreciation. Using the depreciation method will result in the highest NPV for the project. No other firm would take on this project if Fox turns it down. How much should Fox reduce the NPV of this project if it discovered that this project would reduce one of its division's net after-tax cash flows by $400 for each year of the four-year project? Fox spent $2,500 on a marketing study to estimate the number of units that it can sell each year. What should Fox do to take this information into account? The company does not need to do anything with the cost of the marketing study because the marketing study is a sunk cost. Increase the amount of the initial investment by $2,500. Increase the NPV of the project $2,500.Explanation / Answer
Fox CO Details Year 0 Year 1 Year 2 Year 3 Year 4 Unit sales 4,800 5,100 5,000 5,120 Sales Price 22.33 23.45 23.85 24.45 Variable cost/unit 9.45 10.85 11.95 12.00 Fixed Cost 32,500 33,450 34,950 34,875 Accelerated depr rate 33% 45% 15% 7% Investment in New Equipment (25,000) Sales Revenue 107,184 119,595 119,250 125,184 Variable Cost 45,360 55,335 59,750 61,440 Fixed cost 32,500 33,450 34,950 34,875 Depreciation 8,250 11,250 3,750 1,750 Net Income before tax 21,074 19,560 20,800 27,119 Tax @40% 8,430 7,824 8,320 10,848 Net Income after Tax 12,644 11,736 12,480 16,271 Addback depreciation 8,250 11,250 3,750 1,750 Total Cash Flow 20,894 22,986 16,230 18,021 Discount factor @11% 1 0.9009 0.8116 0.7312 0.6587 PV of Cash Flows (25,000) 18,824 18,656 11,867 11,871 NPV = $ 36,218 NPV using straight line depreciation Details Year 0 Year 1 Year 2 Year 3 Year 4 Unit sales 4,800 5,100 5,000 5,120 Sales Price 22.33 23.45 23.85 24.45 Variable cost/unit 9.45 10.85 11.95 12.00 Fixed Cost 32,500 33,450 34,950 34,875 Accelerated depr rate 33% 45% 15% 7% Investment in New Equipment (25,000) Sales Revenue 107,184 119,595 119,250 125,184 Variable Cost 45,360 55,335 59,750 61,440 Fixed cost 32,500 33,450 34,950 34,875 Depreciation 6,250 6,250 6,250 6,250 Net Income before tax 23,074 24,560 18,300 22,619 Tax @40% 9,230 9,824 7,320 9,048 Net Income after Tax 13,844 14,736 10,980 13,571 Addback depreciation 6,250 6,250 6,250 6,250 Total Cash Flow 20,094 20,986 17,230 19,821 Discount factor @11% 1 0.9009 0.8116 0.7312 0.6587 PV of Cash Flows (25,000) 18,103 17,033 12,598 13,057 NPV = $ 35,791 So NPV by using straight line method will be $35791 NPV if the project results in reduction of after tax cash flow of $400 in other project Details Year 0 Year 1 Year 2 Year 3 Year 4 Unit sales 4,800 5,100 5,000 5,120 Sales Price 22.33 23.45 23.85 24.45 Variable cost/unit 9.45 10.85 11.95 12.00 Fixed Cost 32,500 33,450 34,950 34,875 Accelerated depr rate 33% 45% 15% 7% Investment in New Equipment (25,000) Sales Revenue 107,184 119,595 119,250 125,184 Variable Cost 45,360 55,335 59,750 61,440 Fixed cost 32,500 33,450 34,950 34,875 Depreciation 8,250 11,250 3,750 1,750 Net Income before tax 21,074 19,560 20,800 27,119 Tax @40% 8,430 7,824 8,320 10,848 Net Income after Tax 12,644 11,736 12,480 16,271 Addback depreciation 8,250 11,250 3,750 1,750 Less reduction in cash flow of other project (400) (400) (400) (400) Total Cash Flow 20,494 22,586 15,830 17,621 Discount factor @11% 1 0.9009 0.8116 0.7312 0.6587 PV of Cash Flows (25,000) 18,463 18,331 11,575 11,608 NPV = $ 34,977 So NPV will be reduced by (36218-34977)=$1241 Regarding expense of market study, it is a sunk cost , so nothing to be done by company.
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