From the American Grain Company case answer the following question Q1- Determine
ID: 2720849 • Letter: F
Question
From the American Grain Company case answer the following question
Q1- Determine the initial net cash outflow for this project ?
Q2- Detremine the net cash flow (years 1 to 7) if the new pellet mills are purchased ?
Q3- Calculate the NPV for the pellet mill project
Q4 - Calculate IRR for pellet mill project
Q5 - What is the payback for the pellet mill project
Q6- Should AGC invest in the new pellet mill
Q7- For what reasons besides those presented in this case might this project be unacceptable
Q8 - How whould you respond if a member of divisional budget committee made the committee made the comment at the end of your presentation that he was agianst the project because it only made a profit of $35,000
Explanation / Answer
Net Initial Cash Outflow:
Cost of New Mills = $120,000 x 4 = $480,000
Improvement Cost = $15,000
Net Increase in working capital = $12,000
After-tax salvage value of old mills = ($10,000 x 4) x (1-tax rate) = $24,800
Net cash outflow = $480,000 + $15,000 + $12,000 - $24,800 = $482,200
5 Years Depreciation Schedule
Year
Basis
%
Depreciation Expense
Accumulated Depreciation
Ending Book Value
1
$480,000.00
20.000%
$96,000.00
$96,000.00
$384,000.00
2
$480,000.00
32.000%
$153,600.00
$249,600.00
$230,400.00
3
$480,000.00
19.200%
$92,160.00
$341,760.00
$138,240.00
4
$480,000.00
11.520%
$55,296.00
$397,056.00
$82,944.00
5
$480,000.00
11.520%
$55,296.00
$452,352.00
$27,648.00
6
$480,000.00
5.760%
$27,648.00
$480,000.00
$0.00
Net Cash Flow:
Production per year from current plant = 400 x 5 x 50 = 100,000
Year
1
2
3
4
5
6
7
Incremental Sales (total increased production x $280)
$1,635,200.00
$1,733,312.00
$1,837,310.72
$1,947,549.36
$2,064,402.32
$2,188,266.46
$2,319,562.45
Less: Cost of raw material (total increased production x $152)
$887,680.00
$940,940.80
$997,397.25
$1,057,241.08
$1,120,675.55
$1,187,916.08
$1,259,191.05
Less: Overhead cost (total increased production x $108)
$630,720.00
$668,563.20
$708,676.99
$751,197.61
$796,269.47
$844,045.64
$894,688.37
Less: Depreciation
$96,000.00
$153,600.00
$92,160.00
$55,296.00
$55,296.00
$27,648.00
$0.00
EBT
$20,800.00
-$29,792.00
$39,076.48
$83,814.67
$92,161.31
$128,656.75
$165,683.03
Less: tax @ 38%
$7,904.00
-$11,320.96
$14,849.06
$31,849.57
$35,021.30
$48,889.56
$62,959.55
Net Income
$12,896.00
-$18,471.04
$24,227.42
$51,965.09
$57,140.01
$79,767.18
$102,723.48
Add: Depreciation
$96,000.00
$153,600.00
$92,160.00
$55,296.00
$55,296.00
$27,648.00
$0.00
Add: Recovery of NWC
$0.00
$0.00
$0.00
$0.00
$0.00
$0.00
$12,000.00
Add: After-tax salvage value of mills
$0.00
$0.00
$0.00
$0.00
$0.00
$0.00
$24,800.00
Net Cash Flow
$108,896.00
$135,128.96
$116,387.42
$107,261.09
$112,436.01
$107,415.18
$139,523.48
(Note: Sales, cost of raw material and overhead costs increases at a rate of 6% after year 1.)
NPV:
= -$482,200 + [($108,896)/(1.16)] + [($135,128.96)/(1.16)2] + [($116,387.42)/(1.16)3] + [($107,261.09)/(1.16)4] + [($112,436.01)/(1.16)5] + [(107,415.18)/(1.16)6] + [($139,523.48)/(1.16)7]
= -$7,109.97
IRR:
0 = -$482,200 + [($108,896)/(IRR)] + [($135,128.96)/(IRR)2] + [($116,387.42)/(IRR)3] + [($107,261.09)/(IRR)4] + [($112,436.01)/(IRR)5] + [(107,415.18)/(IRR)6] + [($139,523.48)/(IRR)7] = 15.50%
Payback Period: It is total time required to recover the initial investment.
Amount recovered till Year 4 = $467,673.47
Amount to be recovered in Year 5 = $482,200 - $467,673.47 = $14,526.53
Payback Period = 4 + ($14,526.53/$112,436.01) = 4.1292 Years
As the NPV is negative, project should not be accepted.
5 Years Depreciation Schedule
Year
Basis
%
Depreciation Expense
Accumulated Depreciation
Ending Book Value
1
$480,000.00
20.000%
$96,000.00
$96,000.00
$384,000.00
2
$480,000.00
32.000%
$153,600.00
$249,600.00
$230,400.00
3
$480,000.00
19.200%
$92,160.00
$341,760.00
$138,240.00
4
$480,000.00
11.520%
$55,296.00
$397,056.00
$82,944.00
5
$480,000.00
11.520%
$55,296.00
$452,352.00
$27,648.00
6
$480,000.00
5.760%
$27,648.00
$480,000.00
$0.00
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