Howell Petroleum is considering a new project that complements its existing busi

Question

Howell Petroleum is considering a new project that complements its existing business. The machine required for the project costs $3.82 million. The marketing department predicts that sales related to the project will be $2.52 million per year for the next four years, after which the market will cease to exist. The machine will be depreciated down to zero over its four-year economic life using the straight-line method. Cost of goods sold and operating expenses related to the project are predicted to be 25 percent of sales. Howell also needs to add net working capital of $170,000 immediately. The additional net working capital will be recovered in full at the end of the project’s life. The corporate tax rate is 40 percent. The required rate of return for the project is 14 percent.

What is the value of the NPV for this project? (Enter your answer in dollars, not millions of dollars, e.g., 1,234,567. Do not round intermediate calculations and round your answer to 2 decimal places, e.g., 32.16.)

Howell Petroleum is considering a new project that complements its existing business. The machine required for the project costs $3.82 million. The marketing department predicts that sales related to the project will be $2.52 million per year for the next four years, after which the market will cease to exist. The machine will be depreciated down to zero over its four-year economic life using the straight-line method. Cost of goods sold and operating expenses related to the project are predicted to be 25 percent of sales. Howell also needs to add net working capital of $170,000 immediately. The additional net working capital will be recovered in full at the end of the project’s life. The corporate tax rate is 40 percent. The required rate of return for the project is 14 percent.

Explanation / Answer

Year 0 Year 1 Year 2 Year 3 Year 4 Sales 2520000 2520000 2520000 2520000 Less : Cost of goods sold and 630000 630000 630000 630000 Operating Expenses Depreciation (3820000/4) 955000 955000 955000 955000 Income before taxes 935000 935000 935000 935000 Taxes @ 40% 374000 374000 374000 374000 Income after taxes 561000 561000 561000 561000 Add : Depreciation 955000 955000 955000 955000 Free Cash flow 1516000 1516000 1516000 1516000 Investment in machine -3820000 Working Capital ($170,000) $170,000 Cash flow -3990000 1516000 1516000 1516000 1686000 Discount Factor @ 14% 1 0.877193 0.769468 0.674972 0.59208 -3990000 1329825 1166513 1023257 998247.3 NPV of Project 527841.50 NPV $527,841.50

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