Question

Down Under Boomerang, Inc., is considering a new three-year expansion project that requires an initial fixed asset investment of $2.97 million. The fixed asset falls into the three-year MACRS class. The project is estimated to generate $2,170,000 in annual sales, with costs of $847,000. The project requires an initial investment in net working capital of $390,000, and the fixed asset will have a market value of $255,000 at the end of the project.

a. If the tax rate is 24 percent, what is the project’s Year 1 net cash flow? Year 2? Year 3? Table 8.3. (A negative answer should be indicated by a minus sign. Do not round intermediate calculations and enter your answers in dollars, not millions of dollars, rounded to 2 decimal places, e.g., 1,234,567.89.)

b. If the required return is 9 percent, what is the project's NPV?(Enter your answer in dollars, not millions of dollars. Do not round intermediate calculations and round your answer to 2 decimal places, e.g., 1,234,567.89.)

Answer 1

Given initial investment =$ 29,70000

Computation of Cash flow

S.No	Particulars	Year 1	Year 2	Year 3
A	Annual sales	$2,170,000	$2,170,000	$2,170,000
B	Cost	$847,000	$847,000	$847,000
C	Depreciation	$989,901	$1,320,165	$439,857
D	Profit Before Tax ( A-B-C)	$333,099	$2,835	$883,143
E	Tax@ 24%	$79,943.76	$680.40	$211,954.32
F	Profit After Tax	$253,155.24	$2,154.60	$671,188.68
G	Operating Cash flow( F+C)	$1,243,056.24	$1,322,319.60	$1,111,045.68
H	After tax sale proceeds			$26,541.48
I	Recovery of Working Capital			$390,000.00
J	Total Cash flow( G++H+I)	$1,243,056.24	$1,322,319.60	$1,527,587.16

Computation of Depreciation amount.

Year	Applicable Depreciation %	Depreciation amount
1	33.33%	$ 2970000*33.33% = 989901
2	44.45%	$ 2970000*44.45%=1320165
3	14.81%	$ 2970000*14.81% = 439857

Computation of Book value of Asset at the Year end 3

Book value of an Asset = Cost of Asset - ( Accumulated Depreciation)

= $ 2970000-( $ 989901+$ 1320165+$ 439857)

= $ 2970000-$ 2749923

= $ 220077

Computation of After Tax proceeds

S.No	Particulars	Amount
A	Book value of Asset at year 3	$220,077.00
B	Market value of Equipment	$255,000
C	Gain on sale of Equpment ( B-A)	$34,923.00
D	Tax @ 24% on C	$8,381.52
E	After Tax sale proceeds ( C-D)	$26,541.48

b) Computation of Net present value

Year	Cash flow	Disc @ 9% [ 1/ ( 1+i)^n]	Discounting factor	Discounted Cash flow ( Cash flow* Discounting factor)
0	($3,360,000)	1/( 1.09)^0	1	($3,360,000.0000)
1	$1,243,056.24	1/ ( 1.09)^1	0.917431193	$1,140,418.5688
2	$1,322,319.60	1/ ( 1.09)^2	0.841679993	$1,112,969.9520
3	$1,527,587.16	1/ ( 1.09)^3	0.77218348	$1,179,577.5693
	Net Present Value			$72,966.09

* Cash flow in Year 0= Initial investment + Working capital

= $ 2970000+$ 390000= $ 3360000

Hence the Projects Net present value is $ 72966.09