Question

Green, Inc. is planning to invest $500,000 (before tax) in a personnel training program. The $500,000 outlay will be charged off as an expense by the firm this year (year 0). the returns from the program, in the form of greater productivity and a reduction in employee turnover, are estimated as follows (on an after-tax basis):

Years 1-10: $30,000 per year

Years 11-20: $60,000 per year

Potato Inc. has estimated its cost of capital to be 10 percent. Assume that the entire $500,000 is paid at time 0. The marginal tax rate for the firm is 40%. Should the firm undertake the training project? Why?

Answer 1

The decision on whether to accept the project or nor will be taken on the basis of NPV, if NPV is positive, we will accept the project, otherwise we will reject the project.

CALCULATION OF NPV OF THE PROJECT-

NOTE- while calculating cash flow for Year 0, we will add the tax savings due to charging the entire expense in PL account in the current year

Cash flow ate zero = [ $500,000 - ( $500,000 *40% ) ] = $300,000

Rest cash flows from Year 1 to Year 20 are already adjusted with tax.

Year	Cash Flow after tax	PVF @10%	Present Value
a	b	c	d=b*c
0	-$300,000.00	1.000	-$300,000.000
1	$30,000.00	0.909	$27,272.727
2	$30,000.00	0.826	$24,793.388
3	$30,000.00	0.751	$22,539.444
4	$30,000.00	0.683	$20,490.404
5	$30,000.00	0.621	$18,627.640
6	$30,000.00	0.564	$16,934.218
7	$30,000.00	0.513	$15,394.744
8	$30,000.00	0.467	$13,995.221
9	$30,000.00	0.424	$12,722.929
10	$30,000.00	0.386	$11,566.299
11	$60,000.00	0.350	$21,029.634
12	$60,000.00	0.319	$19,117.849
13	$60,000.00	0.290	$17,379.863
14	$60,000.00	0.263	$15,799.875
15	$60,000.00	0.239	$14,363.523
16	$60,000.00	0.218	$13,057.748
17	$60,000.00	0.198	$11,870.680
18	$60,000.00	0.180	$10,791.527
19	$60,000.00	0.164	$9,810.479
20	$60,000.00	0.149	$8,918.618
		NPV	$26,476.810

Since NPV is positive i.e 26,476.810 , therefore we will accept the project

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