You have been hired as a consultant for Pristine Urban-Tech Zither, Inc. (PUTZ),
ID: 2737291 • Letter: Y
Question
You have been hired as a consultant for Pristine Urban-Tech Zither, Inc. (PUTZ), manufacturers of fine zithers. The market for zithers is growing quickly. The company bought some land three years ago for $1.34 million in anticipation of using it as a toxic waste dump site but has recently hired another company to handle all toxic materials. Based on a recent appraisal, the company believes it could sell the land for $1,440,000 on an aftertax basis. In four years, the land could be sold for $1,540,000 after taxes. The company also hired a marketing firm to analyze the zither market, at a cost of $119,000. An excerpt of the marketing report is as follows:
The zither industry will have a rapid expansion in the next four years. With the brand name recognition that PUTZ brings to bear, we feel that the company will be able to sell 3,200, 4,100, 4,700, and 3,600 units each year for the next four years, respectively. Again, capitalizing on the name recognition of PUTZ, we feel that a premium price of $590 can be charged for each zither. Because zithers appear to be a fad, we feel at the end of the four-year period, sales should be discontinued.
PUTZ feels that fixed costs for the project will be $395,000 per year, and variable costs are 10 percent of sales. The equipment necessary for production will cost $2.9 million and will be depreciated according to a three-year MACRS schedule. At the end of the project, the equipment can be scrapped for $370,000. Net working capital of $119,000 will be required immediately and will be recaptured at the end of the project. PUTZ has a 40 percent tax rate, and the required return on the project is 14 percent. Assume the company has other profitable projects. Table 8.3.
What is the NPV of the project?
You have been hired as a consultant for Pristine Urban-Tech Zither, Inc. (PUTZ), manufacturers of fine zithers. The market for zithers is growing quickly. The company bought some land three years ago for $1.34 million in anticipation of using it as a toxic waste dump site but has recently hired another company to handle all toxic materials. Based on a recent appraisal, the company believes it could sell the land for $1,440,000 on an aftertax basis. In four years, the land could be sold for $1,540,000 after taxes. The company also hired a marketing firm to analyze the zither market, at a cost of $119,000. An excerpt of the marketing report is as follows:
Explanation / Answer
Year
1
2
3
4
Land purchase price
$ 13,40,000
Land appraised value
$ 14,40,000
Land sale value
$ 15,40,000
Marketing firm cost
$ 1,19,000
Quantity
3,200
4,100
4,700
3,600
Price
$ 590
Fixed costs
$ 3,95,000
Equipment
$ 29,00,000
Depreciation
33.33%
44.45%
14.81%
14.81%
Salvage value
$ 3,70,000
NWC
$ 1,19,000
Variable costs
10%
Tax rate
40%
Required return
14%
After tax salvage value
Sell old
$ 3,70,000
Taxes
1,48,000
Net
$ 2,22,000
0
1
2
3
4
Sales
$18,88,000.00
$24,19,000.00
$27,73,000.00
$21,24,000.00
Variable costs
$1,88,800.00
$2,41,900.00
$2,77,300.00
$2,12,400.00
Fixed costs
$3,95,000.00
$3,95,000.00
$3,95,000.00
$3,95,000.00
Depreciation
$9,66,570.00
$12,89,050.00
$4,29,490.00
$2,14,890.00
EBT
$3,37,630.00
$4,93,050.00
$16,71,210.00
$13,01,710.00
Tax
$1,35,052.00
$1,97,220.00
$6,68,484.00
$5,20,684.00
Net income
$2,02,578.00
$2,95,830.00
$10,02,726.00
$7,81,026.00
+Depreciation
$9,66,570.00
$12,89,050.00
$4,29,490.00
$2,14,890.00
OCF
$11,69,148.00
$15,84,880.00
$14,32,216.00
$9,95,916.00
Capital spending
-$29,00,000.00
$2,22,000.00
Land
-$14,40,000.00
$15,40,000.00
NWC
-$1,19,000.00
$1,19,000.00
Total cash flows
-$44,59,000.00
$11,69,148.00
$15,84,880.00
$14,32,216.00
$28,76,916.00
Present value factor @ 14%
1
0.8772
0.7695
0.6750
0.5921
Present value of cash flows
-$44,59,000.00
$10,25,568.42
$12,19,513.70
$9,66,705.01
$17,03,365.22
NPV = Sum of present value of cash flows = $456,152.35
Year
1
2
3
4
Land purchase price
$ 13,40,000
Land appraised value
$ 14,40,000
Land sale value
$ 15,40,000
Marketing firm cost
$ 1,19,000
Quantity
3,200
4,100
4,700
3,600
Price
$ 590
Fixed costs
$ 3,95,000
Equipment
$ 29,00,000
Depreciation
33.33%
44.45%
14.81%
14.81%
Salvage value
$ 3,70,000
NWC
$ 1,19,000
Variable costs
10%
Tax rate
40%
Required return
14%
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