Question

Century Roofing is thinking of opening a new warehouse, and the key data are shown below. The company owns the building that would be used, and it could sell it for $100,000 after taxes if it decides not to open the new warehouse. The equipment for the project would be depreciated by the straight-line method over the project's 3-year life, after which it would be worth nothing and thus it would have a zero salvage value. No new working capital would be required, and revenues and other operating costs would be constant over the project's 3-year life. What is the project's NPV? (Hint: Cash flows are constant in Years 1-3.)

Project cost of capital (r)	10.0%
Opportunity cost	$100,000
Net equipment cost (depreciable basis)	$65,000
Straight-line deprec. rate for equipment	33.333%
Sales revenues, each year	$123,000
Operating costs (excl. deprec.), each year	$25,000
Tax rate	35%

a. $11,075

b. $11,658

c. $12,885

d. $10,521

e. $12,271

Answer 1

Solution :

The project's NPV is = $ 12,271

Thus the solution is Option e. $ 12,271

Note : As per the information given in the question the company owns a building that would be used, and it could sell it for $100,000 after taxes if it decides not to open the new warehouse.

This is treated as an Investment in the project. Hence the opportunity cost of not selling the building is treated as an Investment i.e., a  cash outflow for the purpose of calculating NPV.

Please find the attached screenshot of the excel sheet containing the detailed calculation for the solution.