Down Under Boomerang, Inc., is considering a new three-year expansion project th

Question

Down Under Boomerang, Inc., is considering a new three-year expansion project that requires an initial fixed asset investment of $2.64 million. The fixed asset will be depreciated straight-line to zero over its three-year tax life. The project is estimated to generate $2,060,000 in annual sales, with costs of $755,000. The tax rate is 35 percent and the required return is 13 percent. The project requires an initial investment in net working capital of $280,000, and the fixed asset will have a market value of $270,000 at the end of the project.

  

What is the project's Year 0 net cash flow? Year 1? Year 2? Year 3

What is the NPV?

Down Under Boomerang, Inc., is considering a new three-year expansion project that requires an initial fixed asset investment of $2.64 million. The fixed asset will be depreciated straight-line to zero over its three-year tax life. The project is estimated to generate $2,060,000 in annual sales, with costs of $755,000. The tax rate is 35 percent and the required return is 13 percent. The project requires an initial investment in net working capital of $280,000, and the fixed asset will have a market value of $270,000 at the end of the project.

Explanation / Answer

Sales 2060000 Less Costs 755,000=1,305,000*65%= 848,250Annual Cash Flow

Depreciation=$2.64 million/3=880,000 * 35%=308,000 Annual Tax saving from Depreciation.

Total cash Flow=848,250+308,000=1,156,250

PV of Annuity of 1156250, N 3, R 13% = 2,450,138 calculated as below

Cash Outflow at 0 year                 280,000

NPV= 273013-280000=2,450,138

Year Cash Flow PV Factor Net Cash Flows 1 1156250 0.885 1,023,281 2 1156250 0.7831 905,459.4 3 1156250 0.6931 801,396.9 2,730,138

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