Question

Caspian Sea Drinks is considering the purchase of a plum juicer – the PJX5. There is no planned increase in production. The PJX5 will reduce costs by squeezing more juice from each plum and doing so in a more efficient manner. Mr. Bensen gave Derek the following information. What is the NPV of the PJX5?

a. The PJX5 will cost $1.85 million fully installed and has a 10 year life. It will be depreciated to a book value of $139,968.00 and sold for that amount in year 10.

b. The Engineering Department spent $29,966.00 researching the various juicers.

c. Portions of the plant floor have been redesigned to accommodate the juicer at a cost of $19,460.00.

d. The PJX5 will reduce operating costs by $348,359.00 per year.

e. CSD’s marginal tax rate is 23.00%.

f. CSD is 65.00% equity-financed.

g. CSD’s 16.00-year, semi-annual pay, 5.99% coupon bond sells for $954.00.

h. CSD’s stock currently has a market value of $21.62 and Mr. Bensen believes the market estimates that dividends will grow at 3.40% forever. Next year’s dividend is projected to be $1.40.

No Excel answers. Please complete using BA II plus financial calculator and include each step.

Answer 1

Given:

Cash outflow for the year 0:

Cost of Machine $1,850,000 + Research cost $29,966 + Redesigning cost $19,460 = $1899426

Yearly Cash inflow in the form of savings in operating cost $348359

Marginal Tax Rate = 23%

Equity financed = 65% ; Balance debt financed = 35%

Calculation of Cost of capital for discounting purpose:

Cost of Equity = Div₁/P+g = 1.40/21.62 + 0.0340 = 0.0648+0.0340 = 0.0988 = 9.88%

Cost of Bond = (I + [RV - SV] / n) / (RV + SV) / 2

I= (1000*5.99%*2) =$119.80 ; RV=$1000; SV=$954

= (119.80+(1000-954)/16)/(1000+954)/2 = 122.68/977 = 0.1256

AFTER tax = 0.1248(1-0.23) = 0.0967 = 9.67%

WACC= 65%(0.0988)+35%(0.0967) = 0.0642+0.0338 = 0.0980= 9.80%

Calculation on NPV of the PJX5:

NPV = Present value of Cash inflow - Present value of Cash out flow

Calculation of Cash flow after tax = $348359(1-0.23) = $268236.43

Year	CFAT	PV Factor @ 9.80%	Present Value
0	-1899426	1	-1899426
1-10	268236.43	6.1977	1662448.92
10 (sale value)	139968	0.39	54954.77
Total (NPV)			-182022.31

NPV of the PJX5 = - $182022.31