Better Mousetraps has developed a new trap. It can go into production for an ini

Question

Better Mousetraps has developed a new trap. It can go into production for an initial investment in equipment of $6.6 million. The equipment will be depreciated straight line over 6 years to a value of zero, but in fact it can be sold after 6 years for $643,000 The firm believes that working capital at each date must be maintained at a level of 15% of next year's forecast sales he inm estimates production costs equal to $1.90 per trap and believes that the traps can be sold for $6 each. Sales forecasts are given in the following table. The project will come to an end in 6 years, when the trap becomes technologically obsolete. The firm's tax bracket is 35%, and the required rate of return on the project is 12% Use the MAC RS depreciation schedule Year: 123456 Thereafter Sales (millions of traps) 0.4 0.5 0.700-70.5 0 egative amount should be indicated by a minus sign. Do not round intermediate calculations, Enter your answer in millions rounded to 4 decimal places NPV million b. By how much would NPV increase if the firm depreciated its investment using the 5 year MACRS schedule? (Do not round intermediate calculations. Enter your answer in whole dollars not in millions) The NPV Increases by

Explanation / Answer

$ In Millions Year 0 1 2 3 4 5 6 Sales units 0 0.4 0.5 0.7 0.7 0.5 0.3 Revenue 0 2.4 3 4.2 4.2 3 1.8 NWC 0.36 0.45 0.63 0.63 0.45 0.27 0 Cash flow NWC -0.36 -0.09 -0.18 0 0.18 0.18 0.27 a Straightline Depreciation $ In Millions Year 0 1 2 3 4 5 6 Revenue 2.4 3 4.2 4.2 3 1.8 Expenses 0.76 0.95 1.33 1.33 0.95 0.57 Depreciation 0.9928 0.9928 0.9928 0.9928 0.9928 0.9928 Pretax Profit 0.6472 1.0572 1.8772 1.8772 1.0572 0.2372 Tax @ 35% 0.226508 0.370008 0.657008 0.657008 0.370008 0.083008 Net Income 0.4207 0.6872 1.2202 1.2202 0.6872 0.1542 OCF 1.4135 1.6800 2.2130 2.2130 1.6800 1.1470 Investment -6.6 0.41795 Cash flow NWC -0.36 -0.09 -0.18 0 0.18 0.18 0.27 OCF 1.4135 1.6800 2.2130 2.2130 1.6800 1.1470 Total cash flow -6.9600 1.3235 1.5000 2.2130 2.3930 1.8600 1.8349 Discount factor @ 12% 1.0000 0.8929 0.7972 0.7118 0.6355 0.5674 0.5066 PV of cash flow -6.9600 1.1817 1.1958 1.5752 1.5208 1.0554 0.9296 NPV 0.4985 Depreciation (6.6-0.643)/6 b MACRS Depreciation $ In Millions Year 0 1 2 3 4 5 6 Revenue 2.4 3 4.2 4.2 3 1.8 Expenses 0.76 0.95 1.33 1.33 0.95 0.57 Depreciation $1.3200 $2.1120 $1.2556 $0.7603 $0.7603 $0.3801 Pretax Profit $0.3200 ($0.0620) $1.6144 $2.1097 $1.2897 $0.8499 Tax $0.1120 $0.0000 $0.5650 $0.7384 $0.4514 $0.2975 Net Income $0.2080 ($0.0620) $1.0493 $1.3713 $0.8383 $0.5524 OCF $1.5280 $2.0500 $2.3050 $2.1316 $1.5986 $0.9325 Investment -6.6 0.41795 Cash flow NWC -0.36 -0.09 -0.18 0 0.18 0.18 0.27 OCF 2.001 2.6556 2.76336 2.594001 3.374001 2.077 Total cash flow -6.96 1.911 2.4756 2.76336 2.774001 3.554001 2.76495 Discount factor @ 12% 1.0000 0.8929 0.7972 0.7118 0.6355 0.5674 0.5066 PV of cash flow -6.96 1.70625 1.973533 1.966905 1.762927 2.016635 1.40081 NPV 3.867061 MACRS Depreciation Rate 0.2 $6.60 $1.3200 0.32 $6.60 $2.1120 0.190246 $6.60 $1.2556 0.115193 $6.60 $0.7603 0.115193 $6.60 $0.7603 0.057596 $6.60 $0.3801 Change in NPV 0.4984-3.8671 -3.3686 Increase in NPV $3.3686 million

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