Safety Third Construction Corp is bidding upon a service contract for the Univer

Question

Safety Third Construction Corp is bidding upon a service contract for the University to maintain and upgrade three classrooms per year for the next nine years. The contract will require purchasing $1,605,000 in equipment that will be depreciated using straight-line depreciation to a zero book value over the project's life. The equipment can be sold for $325,000 at the end of the service contract. They will also need $140,000 in net working capital over the life of the contract. While performing the contract work, they expect to incur fixed costs of $500,000 per year and a variable cost of $70,000 per classroom. They will also face a corporate tax rate of 40%. If the required rate of return is 15%, what is the minimum offer they can make per classroom and still turn an economic profit?

Explanation / Answer

Minimum offer per class room =

Charge per class= 356532.4 Time line 0 1 2 3 4 5 6 7 8 9 Cost of new machine -1605000 Net working capital -140000 =Initial Investment outlay -1745000 Earnings =Charge per classes*number of classes 1069597 1069597 1069597 1069597 1069597 1069597 1069597 1069597 1069597 -Depreciation Cost of new machine/9 -178333 -178333 -178333 -178333 -178333 -178333 -178333 -178333 -178333 -fixed cost -500000 -500000 -500000 -500000 -500000 -500000 -500000 -500000 -500000 -variable cost =Variable cost per class room* number of classes -210000 -210000 -210000 -210000 -210000 -210000 -210000 -210000 -210000 =Pretax cash flows 181263.8 181263.8 181263.8 181263.8 181263.8 181263.8 181263.8 181263.8 181263.8 -taxes =(Pretax cash flows)*(1-tax) 108758.3 108758.3 108758.3 108758.3 108758.3 108758.3 108758.3 108758.3 108758.3 +Depreciation 178333.3 178333.3 178333.3 178333.3 178333.3 178333.3 178333.3 178333.3 178333.3 =after tax perating cash flow 287091.6 287091.6 287091.6 287091.6 287091.6 287091.6 287091.6 287091.6 287091.6 reversal of working capital 140000 +Proceeds from sales after tax 195000 "=Terminal year after tax cash flows 335000 Total Cash flow for the period -1745000 287091.6 287091.6 287091.6 287091.6 287091.6 287091.6 287091.6 287091.6 1606711 Required rate of return= 15% Discount factor= (1+ required rate)^N 1 1.15 1.3225 1.520875 1.749006 2.011357 2.313061 2.66002 3.059023 3.517876 Discounted cash flow= total cash flow/discount factor -1745000 249644.9 217082.5 188767.4 164145.6 142735.3 124117.6 107928.4 93850.76 456727.5 NPV= Sum of discounted cash flow = 8E-10

Related Questions

Navigate

• Browse (All)
• Browse S
• Subjects

---

---

Integrity-first tutoring: explanations and feedback only — we do not complete graded work. Learn more.