ear 0 Years 1 to 10 Revenues 3.50 – Manufacturing Expenses –0.5 – Marketing Expe
ID: 2723279 • Letter: E
Question
ear 0 Years 1 to 10 Revenues 3.50 – Manufacturing Expenses –0.5 – Marketing Expenses –0.25 – Depreciation –0.8 = EBIT 1.95 – Taxes (40%) –0.78 = Unlevered net income 1.17 + Depreciation + 0.8 – Additions to Net Working Capital –0.2 – Capital Expenditures –8.00 = Free Cash Flow 1.77 Panjandrum Industries, a manufacturer of industrial piping, is evaluating whether it should expand into the sale of plastic fittings for home garden sprinkler systems. It has made the above estimates of free cash flows resulting from such a decision. There are concerns of the sensitivity of this project to changes in the cost of capital. For what cost of capital does this project break even?
Explanation / Answer
Answer
The project will have break even when it has no profit or loss means NPV of Project should be zero.
Internal rate of return is a discount rate that makes the net present value (NPV) of all cash flows from a particular project equal to zero.
We have to find IRR by trial and error method by assuming different discount rates.
Suppose Discount rate is 17.84%
Figures in $
Year
Free cash flow
Capital expenditures
Cash Flows
Disc Rate : 17.84%
Present Value
A
B
C
D
A+B
C*D
0
-8
-8
1
-8
1
1.77
1.77
0.85
1.50
2
1.77
1.77
0.72
1.27
3
1.77
1.77
0.61
1.08
4
1.77
1.77
0.52
0.92
5
1.77
1.77
0.44
0.78
6
1.77
1.77
0.37
0.66
7
1.77
1.77
0.32
0.56
8
1.77
1.77
0.27
0.48
9
1.77
1.77
0.23
0.40
10
1.77
1.77
0.19
0.34
Net present value
0.00
Internal rate of return
17.84%
Answer : This project will have break even at 17.84% Cost of capital.
Figures in $
Year
Free cash flow
Capital expenditures
Cash Flows
Disc Rate : 17.84%
Present Value
A
B
C
D
A+B
C*D
0
-8
-8
1
-8
1
1.77
1.77
0.85
1.50
2
1.77
1.77
0.72
1.27
3
1.77
1.77
0.61
1.08
4
1.77
1.77
0.52
0.92
5
1.77
1.77
0.44
0.78
6
1.77
1.77
0.37
0.66
7
1.77
1.77
0.32
0.56
8
1.77
1.77
0.27
0.48
9
1.77
1.77
0.23
0.40
10
1.77
1.77
0.19
0.34
Net present value
0.00
Internal rate of return
17.84%
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