In: Finance
Easy Payment Loan Company is thinking of opening a new office, and the key data are shown below. Easy Payment owns the building, free and clear, and it would sell it for $100,000 after taxes if the company decides not to open the new office. The equipment that would be used would be depreciated by the straight-line method over the project’s 3-year life, and would have a zero salvage value. An extra $5,000 of new working capital would be required to get this project running. Revenues and cash 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 and the increased working capital will be recovered when this project ends. A simplified CCA is for mathematical convenience.)
WACC | 10.0% | ||||
Net equipment capital cost |
$65,000 |
||||
Annual CCA deduction for equipment |
$21,665 |
||||
Sales revenues, each year |
$150,000 |
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Cash operating costs, each year |
$25,000 |
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Tax rate | 3.5% |
A. $50,464
B. $54,672
C. $47,940
D. $55,915
Initial Investment
Current value of the building = $100,000
(+) Cost of equipment = $65,000
(+) Net working capital = $5000
Total initial investment = $170,000
Annual Cash flow
Annual Cash flow = (Sales revenue - Operating cost) x (1- tax rate) + CCA x Tax rate
= ($150,000 - $25,000) x (1-0.35) + 21,665 x .35
= $88,832.75
NPV
NPV can be calculated using the following formula:
NPV = Annual cash flow x PVIFA(3,10%) + Working capital x PVIF (3,10%) - initial Investment
= 88372.75 x 2.486852 + 5000 x 0.751315 – 170,000
= $54672
Therefore, option B is correct.