15. TexMex Products is considering a new salsa whose data are shown below. The e

Question

15. TexMex Products is considering a new salsa whose data are shown below. The equipment that would be used would be depreciated by the straight-line method over its 3-year life, would have zero salvage value, and no new working capital would be required. Revenues and other operating costs are expected to be constant over the project's 3-year life. However, this project would compete with other TexMex products and would reduce their pre-tax annual cash flows. What is the project's NPV? (Hint: Cash flows are constant in Years 1-3.) WACC Pre-tax cash flow reduction in other products (cannibalization) Investment cost (depr'ble basis) Straight-line depr'n rate Sales revenues, each year Annual operating costs, ex. depr'n 10.0% $5,000 $65,000 33.333% $75,000 $25,000 35.0% Tax rate

Explanation / Answer

Answer: Depreciation formula : Eqipment value - salvage value/ no of years

Present value formula : cash flow/( 1 + interest rate) ^ ( No of year)

Interest rate = WACC = 10%

NPV coming here is positive. project is beneficial for the organization

0 1 2 3 Investment cost -65000 Sales revenue 75000 75000 75000 Cannabilization cost -5000 -5000 -5000 Annual operating costs -25000 -25000 -25000 Depreciation 21645 21645 21645 tax 0 8174.25 8174.25 8174.25 Net cash flows -65000 36825.75 36825.75 36825.75 present value -65000 33477.95 30434.5 27667.73 NPV 26580.19

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