Question

Consider a project to supply 60 million postage stamps per year to the U.S. Postal Service for the next five years. You have an idle parcel of land available that cost $760,000 five years ago; if the land were sold today, it would give you $912,000 after taxes. Three years ago, you purchased some equipment for $60,000. This equipment has a current book value of $40,000 and a current market value of $30,000. The land and equipment can be used for this project. You will need to install $2,356,000 in new manufacturing plant and equipment to actually produce the stamps; this plant and equipment will be depreciated straight-line to zero over the project’s 5-year life. The equipment can be sold for $456,000 at the end of the project. You will also need $469,000 in initial net working capital for the project, and an additional investment of $38,000 in every year thereafter. All net working capital will be recovered when the project ends. Your production costs are 0.5 cents per stamp, and you have fixed costs of $608,000 per year. Your tax rate is 31 percent and your required return on this project is 11 percent. What bid price per stamp should you submit? Consider a project to supply 60 million postage stamps per year to the U.S. Postal Service for the next five years. You have an idle parcel of land available that cost $760,000 five years ago; if the land were sold today, it would give you $912,000 after taxes. Three years ago, you purchased some equipment for $60,000. This equipment has a current book value of $40,000 and a current market value of $30,000. The land and equipment can be used for this project. You will need to install $2,356,000 in new manufacturing plant and equipment to actually produce the stamps; this plant and equipment will be depreciated straight-line to zero over the project’s 5-year life. The equipment can be sold for $456,000 at the end of the project. You will also need $469,000 in initial net working capital for the project, and an additional investment of $38,000 in every year thereafter. All net working capital will be recovered when the project ends. Your production costs are 0.5 cents per stamp, and you have fixed costs of $608,000 per year. Your tax rate is 31 percent and your required return on this project is 11 percent. What bid price per stamp should you submit?

Answer 1

Tax rate		31%
Calculation of annual depreciation
Depreciation		Year-1	Year-2	Year-3	Year-4	Year-5	Total
Cost		$      2,356,000	$      2,356,000	$      2,356,000	$      2,356,000	$      2,356,000
Dep Rate		20.00%	20.00%	20.00%	20.00%	20.00%
Depreciation	Cost * Dep rate	$         471,200	$         471,200	$         471,200	$         471,200	$         471,200	$      2,356,000
Calculation of after-tax salvage value		New equipment	Old equipment
Cost of machine			$      2,356,000
Depreciation			$      2,356,000
WDV	Cost less accumulated depreciation	$                   -	$           40,000
Sale price			$         456,000	$           30,000
Profit/(Loss)	Sale price less WDV	$         456,000	$         (10,000)
Tax	Profit/(Loss)*tax rate	$         141,360	$           (3,100)
Sale price after-tax	Sale price less tax		$         314,640	$           33,100
Initial investment in assets excluding working capital
Cost of Land	$            912,000
Cost of old equipment	$              33,100
New equipment	$         2,356,000
Total	$         3,301,100
Calculation of annual operating cash flow
		Year-1	Year-2	Year-3	Year-4	Year-5
No of units		60,000,000	60,000,000	60,000,000	60,000,000	60,000,000
Selling price		$                   -	$                   -	$                   -	$                   -	$                   -
Operating ost		$               0.05	$               0.05	$               0.05	$               0.05	$               0.05
Sale		$                   -	$                   -	$                   -	$                   -	$                   -
Less: Operating Cost		$      3,000,000	$      3,000,000	$      3,000,000	$      3,000,000	$      3,000,000
Contribution		$    (3,000,000)	$    (3,000,000)	$    (3,000,000)	$    (3,000,000)	$    (3,000,000)
Less: Fixed cost		$         608,000	$         608,000	$         608,000	$         608,000	$         608,000
Less: Depreciation		$         471,200	$         471,200	$         471,200	$         471,200	$         471,200
Profit before tax (PBT)		$    (4,079,200)	$    (4,079,200)	$    (4,079,200)	$    (4,079,200)	$    (4,079,200)
Tax@31%	PBT*Tax rate	$    (1,264,552)	$    (1,264,552)	$    (1,264,552)	$    (1,264,552)	$    (1,264,552)
Profit After Tax (PAT)	PBT - Tax	$    (2,814,648)	$    (2,814,648)	$    (2,814,648)	$    (2,814,648)	$    (2,814,648)
Add Depreciation	PAT + Dep	$         471,200	$         471,200	$         471,200	$         471,200	$         471,200
Cash Profit after-tax		$    (2,343,448)	$    (2,343,448)	$    (2,343,448)	$    (2,343,448)	$    (2,343,448)
Calculation of NPV
						11.00%
Year		Capital	Working capital	Operating cash	Annual Cash flow	PV factor, 1/(1+r)^time	Present values
0		$    (3,301,100)	$       (469,000)		$    (3,770,100)	1.0000	$     (3,770,100)
1			$         (38,000)	$    (2,343,448)	$    (2,381,448)	0.9009	$     (2,145,449)
2			$         (38,000)	$    (2,343,448)	$    (2,381,448)	0.8116	$     (1,932,837)
3			$         (38,000)	$    (2,343,448)	$    (2,381,448)	0.7312	$     (1,741,294)
4			$         (38,000)	$    (2,343,448)	$    (2,381,448)	0.6587	$     (1,568,734)
5		$         314,640	$         621,000	$    (2,343,448)	jeff jeffy Next > < Previous Related Solutions Consider a project to supply 60 million postage stamps per year to the U.S. Postal Service... Consider a project to supply 60 million postage stamps per year to the U.S. Postal Service for the next five years. You have an idle parcel of land available that cost $760,000 five years ago; if the land were sold today, it would give you $912,000 after taxes. Three years ago, you purchased some equipment for $60,000. This equipment has a current book value of $40,000 and a current market value of $30,000. The land and equipment can be used... Consider a project to supply 60 million postage stamps per year to the U.S. Postal Service... Consider a project to supply 60 million postage stamps per year to the U.S. Postal Service for the next five years. 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