Question

	Year 0	Year 1	Year 2	Year 3	Year 4
Revenue		120000	440000	440000	330000
Cost of Goods Sold		-60000	-220000	-220000	165000
Gross Profit		60000	220000	220000	165000
Selling, General and Admin		-7000	-7000	-7000	-7000
Depreciation		-80000	-80000	-80000	-80000
EBIT		-27000	133000	133000	78000
Income tax (35%)		9450	-46550	-46550	-27300
Incremental Earnings		-36450	86450	86450	50700
Capital Purchaes	-280,000
Change to NWC		-5,000	-5,000	-5,000	-5,000

A garage is installing a new​ "bubble-wash" car wash. It will promote the car wash as a fun activity for the​ family, and it is expected that the novelty of this approach will boost sales in the medium term. If the cost of capital is 88​%,by using the data in the table​ above, calculate the net present value​ (NPV) of this project.

Answer 1

NPV = sum of present values of FCF

FCF in each year = incremental earnings + depreciation - capital purchases - change to NWC

In year 1, EBIT is negative. Therefore, taxes should be positive, and these are a cash inflow since there is a reduction in tax expense. This will offset the negative EBIT to increase the incremental earnings. Therefore, this adjustment needs to be done in Year 1.

present value of each FCF = FCF / (1 + cost of capital)ⁿ

where n = number of years after which the cash flow occurs

NPV = 124,256