Question

Fibertech is deciding on opening a new plant. The new plant will be located on the existing land, which the company purchased 2 years ago for $1 million. The company has also spent $300,000 for market research.

If the plant is not opened the company will rent out the land for $200,000 per year. The expected sales of the new plant are $2.3 million per year for the next 5 years. The new plant's construction costs are $2 million (Year 0), the requirement for NWC is $200,000 in year 0, which will recover in year 5. The plant should be depreciated over 5 years using the straight-line method. Cost of sales is expected to be 40% os sales. Administrative expenses are $300,000 every year. Tax rate is 20%. What is the NPV of this project if the cost of capital is 15%?

Possible answers:

a. -$813,337

b. $527,525

c. $1,063,870

d. $428,090

e. -$437,896

Answer 1

1]	INITIAL COST:
	Cost of the new plant	$      2,000,000
	Increase in NWC	$ 200,000
	Initial cost of the project	$      2,200,000
2]	ANNUAL OCF:
	Sales	$ 2,300,000
	Cost of sales	$          920,000
	Depreciation [2000000/5]	$          400,000
	Administrative expenses	$          300,000
	Opportunity cost-Lost rent on land	$          200,000
	NOI	$          480,000
	Tax at 20%	$            96,000
	N0PAT	$          384,000
	Add: Depreciation	$          400,000
	Annual OCF	$          784,000
3]	CALCULATION OF NPV:
	PV of OCF = 784000*(1.15^5-1)/(0.15*1.15^5) =	$ 2,628,090
	PV of recovery of NWC = 200000/1.15^5 =	$ 99,435
	Total PV of cash inflows	$      2,727,525
	Less: Initial investment	$      2,200,000
	NPV	$ 527,525
4]	Answer: [b] $527,525