Garida Co. is considering an investment that will have the following sales, vari

Question

Garida Co. is considering an investment that will have the following sales, variable costs, and fixed operating costs Year 1 Year 2 Year 3 Year 4 Unit sales Sales prioe Variable cost per unit Fixed operating costs except depreciation Accelerate 4,2004,1004,3004, $29.82 $30.00$30.31 $33.19 $12.15 $13.45 $14.02 $14.55 $40,100 7% $41,DDD $41,670 $41,890 d depreciation rate 33% 45% 15% This project will require an investment of $20,0DD in new Determine what the project's net present value (NPV) equipment The equipment will have no salvage value at the end of the project's four-year life. Garida pays a constant tax rate of 40%, and it has a weighted average cost of capital (WACC) of 11%. Determine what the project's net present value (NPV) would be when using accelerated depreciation. would be when using accelerated de preciation. $53,097 O $55,405 $46,171 O $41,554 Now determine what the project's NPV would be when using straight-line depreciation. Using the depreciation method will result in the highest NPV for the project. No other firm would take on this projedt if Garida turns it down. How much should Garida reduce the NPV of this project if it discovered that this project would reduce one of its division's net after-tax cash flows by $40D for each year of the four-year projedt? O $1,055 O $931 O $1,365 O $1,241 The project will require an initial investment of $20,0DD, but the project will also be using a company-owned truck that is nat currently being used. This truck could be sold for $12,0DD, after taxes, if the project is rejected. What should Garida do to take this information into account? O O O Increase the NPV of the project by $12,000. The company does not need to do anything with the value of the truck because the truck is a sunk cost. Increase the amount of the initial investment by $12,000.

Explanation / Answer

Sales = Unit x Sales Price

VC = Unit x VC

Depreciation = Investment x MACRS %

Cash Flows = Investment + Net Income + Depreciation

NPV can be calculated using NPV function in excel NPV(rate = 11%, CF1...CF4) + CF0 = $46,171

If Depreciation = Investment / 4 = 25% x Investment,

then NPV = $45,830

Using accelerated depreciation, NPV is higher

Reduction in NPV can be calculated using PV function in excel or calculator

PV(rate = 11%, nper = 4, pmt = 400, fv = 0, 0) = $1,241

There is no change required as the truck is a sunk cost.

Garida 0 1 2 3 4 MACRS 33% 45% 15% 7% Unit 4,200 4,100 4,300 4,400 Sales Price 29.82 30 30.31 33.19 VC 12.15 13.45 14.02 14.55 Investment -20000 Sales 125244 123000 130333 146036 VC -51030 -55145 -60286 -64020 FC -41000 -41670 -41890 -40100 Depreciation -6600 -9000 -3000 -1400 EBT 26614 17185 25157 40516 Tax (40%) -10645.6 -6874 -10062.8 -16206.4 Net Income 15968.4 10311 15094.2 24309.6 Cash Flows -20000 22568.4 19311 18094.2 25709.6 NPV $46,171

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