Question

Gigi Buffon Manufacturing Company is considering a four-year investment project that involves the purchase of a new equipment that costs $600,000 today. The equipment will be depreciated on a straight-line basis over 4 years. The company expects the salvage value of the equipment will equal zero at the end of the year four. However, the company expects to sell the equipment at the end of fourth year to generate $20,000 after tax cash flow.

The purchase and utilization of the equipment will have an effect on the company’s net operating working capital (NOWC) at the beginning of the project. Specifically, the inventory will increase by $90,000, account receivable will increase by $50,000, and accounts payable will increase by $40,000. The investment on NOWC will be recovered at the end of the project.

The employment of the equipment is expected to increase sales of $1,000,000 in the first year, $1,200,000 in the second year $1,300,000 in the third year, and $1,400,000 in the fourth year. Each year the operating costs (excluding depreciation) are expected to equal 68.5 percent of the sales revenue. The company’s interest expense each year will be $125,560. The company’s overall WACC is estimated to be 13.75 percent and the company’s tax rate is 33 percent.

What are the NPV and MIRR of the project?

Answer 1

		A	B	C	D	E
	Year	0	1	2	3	4	Cash Investment Net Working capital = Increase in Inventory+increase in +increase in account receiables - account payable = 90,000 + 50000-40000 = 100,000
1	Initial Cost	600000
2	Net Working Capital	100000
3	Revenues		1000000	1200000	1300000	1400000
4	Operating costs		685000	822000	890500	959000	Operating Costs = 68.5% * Revenue
5	Depreciation		150000	150000	150000	150000	Depreciation =( Initial Cost-0)/4
6	Interest Expenses		125,560	125,560	125,560	125,560
7	EBT		39,440	102,440	133,940	165,440	EBT = Revenues - Operating cost- depreciation - interest
8	Tax = EBIT * Tax Rate		13015.2	33805.2	44200.2	54595.2
9	EAT = EBIT - Tax		26424.8	68634.8	89739.8	110844.8
10	Depreciation		150000	150000	150000	150000
11	After Tax Sale of equipment		0	0	0	20,000
12	Recovery of Net Working Capital					100000
13	Operating Cash Flow	-700000	176424.80	218634.80	239739.80	380844.80	(EAT+Depreciation+After Tax Salvage Value)
14	Discount Rate	13.75%
15	NPV	14437.79	NPV(A14,B13:E13)+A13
	For MIRR
	Operating Cash Flow	-700000	176424.8	218634.8	239739.8	380844.8
	MIRR =( Total Future Value of cash inflows/ PV of Cash outflow)^(1/4) -1
	PV of Cash outflows	700000					Total
	FV of Cash outflows		259665.26	282892.93	272704.02	380844.8	1196107.02	FV = CASH FLOWS*(1+ R5)^(N-n)
	MIRR	14.33%

Best of Luck. God Bless