Question

The Best Manufacturing Company is considering a new investment. Financial projections for the investment are tabulated here. The corporate tax rate is 24 percent. Assume all sales revenue is received in cash, all operating costs and income taxes are paid in cash, and all cash flows occur at the end of the year. All net working capital is recovered at the end of the project.

	Year 0		Year 1		Year 2		Year 3		Year 4
Investment	$	27,700
Sales revenue			$	14,800	$	16,400	$	17,800	$	14,300
Operating costs				3,600		3,450		5,600		4,200
Depreciation				6,925		6,925		6,925		6,925
Net working capital spending		370		270		365		220		?

a.	Compute the incremental net income of the investment for each year. (Do not round intermediate calculations.)

   

b.	Compute the incremental cash flows of the investment for each year. (Do not round intermediate calculations. A negative amount should be indicated by a minus sign.)

   

c.	Suppose the appropriate discount rate is 10 percent. What is the NPV of the project? (Do not round intermediate calculations and round your answer to 2 decimal places, e.g., 32.16.)

   

Answer 1

a.
Calculation of incremental net income for each year
	Year 1	Year 2	Year 3	Year 4
Sales revenue	$14,800	$16,400	$17,800	$14,300
Operating costs	-$3,600	-$3,450	-$5,600	-$4,200
Depreciation	-$6,925	-$6,925	-$6,925	-$6,925
Income before taxes	$4,275	$6,025	$5,275	$3,175
Taxes @ 24%	-$1,026	-$1,446	-$1,266	-$762
Incremental net income	$3,249	$4,579	$4,009	$2,413
b.
Calculation of incremental cash flow of the investment for each year
	Year 0	Year 1	Year 2	Year 3	Year 4
Sales revenue		$14,800	$16,400	$17,800	$14,300
Operating costs		-$3,600	-$3,450	-$5,600	-$4,200
Depreciation		-$6,925	-$6,925	-$6,925	-$6,925
Income before taxes		$4,275	$6,025	$5,275	$3,175
Taxes @ 24%		-$1,026	-$1,446	-$1,266	-$762
Incremental net income		$3,249	$4,579	$4,009	$2,413
Add: Depreciation		$6,925	$6,925	$6,925	$6,925
Working capital recovered					$1,225	(370+270+365+220)
Total cash inflow		$10,174	$11,504	$10,934	$10,563
Investment	-$27,700
Working capital	-$370	-$270	-$365	-$220
Incremental cash flow	-$28,070	$9,904	$11,139	$10,714	$10,563
c.
Calculation of net present value
	Year 0	Year 1	Year 2	Year 3	Year 4
Incremental cash flow	-$28,070	$9,904	$11,139	$10,714	$10,563
Discount factor @ 10%	1.00000	0.90909	0.82645	0.75131	0.68301
Present value	-$28,070.00	$9,003.64	$9,205.79	$8,049.59	$7,214.67
Net present value	$5,403.68
Thus, net present value of project is $5,403.68