Question

ABC Meat Processing, Inc. is considering an upgrade to their facilities. The CEO and largest shareholder of the company was recently inspired by the movie about Dr. Temple Grandin, and believes that implementing some of Dr. Grandin's designs could increase the efficiency and profitability of the company.

A task force of engineers and marketers was formed to analyse different designs. They have settled on their top recommendation, and have come to you for a financial analysis.

The upgrades are expected to last for 7 years. It is expected that the implementation of this design will increase the number of cattle that can be processed by 11,250 per year. The revenue generated by one head of cattle is expected to be $2,500 in the first year of the project; and the cost of one head of cattle is expected to be $1,350 in the first year of the project. The revenue and cost per unit are expected to increase at a constant rate of 2% annually for the life of the project.

The updgrades will cost $55 million and will be depreciated on a straightline basis over the 7-year economic life of the project. The project will also require an immediate investment in net working capital of $400,000 which will be recovered at the end of the project.

The company's marginal tax rate is 35%. Additionally, the company is financed entirely with equity, and the cost of equity r_e = 9%.

A.) What is the NPV of this project? Round your answer to the nearest dollar, and do not include symbols or commas in your answer. For example, write "$1,234,567.89" as "1234568".

B.) However: the CEO wants to finance the updgrades entirely with debt so as not to dilute his control of the company. Assuming this is possible and that the company could raise the $55 million with an issue of bonds priced to yield 5% and maturing in 7 years, the annual interest expense for each of the next 7 years would be $2.750 million.

What is the value of the project with leverage? Round your answer to the nearest dollar, and do not include symbols or commas in your answer. For example, write "$1,234,567.89" as "1234568".

Answer 1

ABC Meat Processing Company
Assumption: Initially in the first year the total cattle used for processing is						11250		Cost of the Project		55000000
Revenue per cattle in first year	2500
Cost per cattle in first year	1350
Growth Rate of revenues and cogs	2%
			Year
Income Statement Schedule			0	1	2	3	4	5	6	7
	Revenues			28125000	57375000	87783750	119385900	152217023	186313636	221713226
	COGS			15187500	30982500	47403225	64468386	82197192	100609363	119725142
	Depn			7857143	7857143	7857143	7857143	7857143	7857143	7857143
	PBT			5080357	18535357	32523382	47060371	62162687	77847129	94130941
	Tax @35%			1778125	6487375	11383184	16471130	21756941	27246495	32945829
	PAT			3302232	12047982	21140198	30589241	40405747	50600634	61185112
Cash Flow Schedule
Initial Investment			-55000000
Adding depn to net income				11159375	19905125	28997341	38446384	48262890	58457777	69042255
Present Values @ discounted 9% as it is financed completely by equity	9%		-55000000	10237959	16753745	22391268	27236388	31367567	34856462	37768478
NPV			125611867
If financed using debt
Annual Interest Expense	2750000
Income Statement Schedule			0	1	2	3	4	5	6	7
	Revenues			28125000	57375000	87783750	119385900	152217023	186313636	221713226
	COGS			15187500	30982500	47403225	64468386	82197192	100609363	119725142
	Depn			7857143	7857143	7857143	7857143	7857143	7857143	7857143
	Interest Expense			2750000	2750000	2750000	2750000	2750000	2750000	2750000
	PBT			2330357	15785357	29773382	44310371	59412687	75097129	91380941
	Tax @35%			815625	5524875	10420684	15508630	20794441	26283995	31983329
	PAT			1514732	10260482	19352698	28801741	38618247	48813134	59397612
Cash Flow Schedule
Initial Investment			-55000000
Adding depn to net income				9371875	18117625	27209841	36658884	46475390	56670277	67254755
Present Values @ discounted 5%*(1-35%) as it is financed completely by debt	3%		-55000000	9076877	16994999	24720419	32256631	39607072	46775127	53764124
NPV			168195248