Fairfax Paint is evaluating a 2-year project that would involve buying equipment
ID: 2732752 • Letter: F
Question
Fairfax Paint is evaluating a 2-year project that would involve buying equipment for 130,000 dollars that would be depreciated to 50,000 dollars over 2 years using straight-line depreciation. Cash flows from capital spending would be 0 dollars in year 1 and 64,000 dollars in year 2. To finance the project, Fairfax Paint would borrow 130,000 dollars. The firm would receive 130,000 dollars from the bank today and would pay the bank $0 in 1 year and 152,100 dollars in 2 years (consisting of an interest payment of 22,100 dollars and a principal payment of 130,000 dollars). Relevant annual revenues are expected to be 125,000 dollars in year 1 and 116,000 dollars in year 2. Relevant annual costs are expected to be 34,000 dollars in year 1 and 43,000 dollars in year 2. The tax rate is 50 percent. The cost of capital is 4.66 percent. What is the net present value of the project?Explanation / Answer
Year
0
1
2
Annual revenues
$ 0
$ 125,000
$ 116,000
Annual costs
$ 0
-$ 34,000
-$ 43,000
Depreciation ($130,000/2)
$ 0
-$ 65,000
-$ 65,000
Interest expense
$ 0
$ 0
-$ 22,100
Income before taxes
$ 0
$ 26,000
-$ 14,100
Tax expenses @ 50%
$ 0
$ 13,000
$ 0
Net income
$ 0
$ 13,000
-$ 14,100
Add: Depreciation
$ 0
$ 65,000
$ 65,000
Operating cash flows
$ 0
$ 78,000
$ 50,900
Bank loan
$ 130,000
$ 0
-$ 130,000
Cost of equipment
-$ 130,000
$ 0
$ 0
Capital spending
$ 0
$ 0
-$ 64,000
Non operating cash flows
$ 0
$ 0
-$ 194,000
Total cash flows
$ 0
$ 78,000
-$ 143,100
Present value factor @ 4.66%
1
0.9555
0.9129
Present value of cash flows
$ 0
$ 74,529
-$ 130,636
-$ 56,107
Net present value of project = $56,107
Year
0
1
2
Annual revenues
$ 0
$ 125,000
$ 116,000
Annual costs
$ 0
-$ 34,000
-$ 43,000
Depreciation ($130,000/2)
$ 0
-$ 65,000
-$ 65,000
Interest expense
$ 0
$ 0
-$ 22,100
Income before taxes
$ 0
$ 26,000
-$ 14,100
Tax expenses @ 50%
$ 0
$ 13,000
$ 0
Net income
$ 0
$ 13,000
-$ 14,100
Add: Depreciation
$ 0
$ 65,000
$ 65,000
Operating cash flows
$ 0
$ 78,000
$ 50,900
Bank loan
$ 130,000
$ 0
-$ 130,000
Cost of equipment
-$ 130,000
$ 0
$ 0
Capital spending
$ 0
$ 0
-$ 64,000
Non operating cash flows
$ 0
$ 0
-$ 194,000
Total cash flows
$ 0
$ 78,000
-$ 143,100
Present value factor @ 4.66%
1
0.9555
0.9129
Present value of cash flows
$ 0
$ 74,529
-$ 130,636
-$ 56,107
Related Questions
Navigate
Integrity-first tutoring: explanations and feedback only — we do not complete graded work. Learn more.