Question

You are a manager at Percolated​ Fiber, which is considering expanding its operations in synthetic fiber manufacturing. Your boss comes into your​ office, drops a​ consultant's report on your​ desk, and​ complains, "We owe these consultants $1.6 million for this​ report, and I am not sure their analysis makes sense. Before we spend the $29 million on new equipment needed for this​ project, look it over and give me your​ opinion." You open the report and find the following estimates​ (in millions of​ dollars): 

	Project Year
Earnings Forecast ($000,000s)	1	2	. . .	9	10
Sales revenue	31	31		31	31
- Cost of goods sold	18.6	18.6		18.6	18.6
Error: Error evaluating expression: Gross profit	12.4	12.4		12.4	12.4
- Selling, general, and administrative expenses	2.32	2.32		2.32	2.32
- Depreciation	2.9	2.9		2.9	2.9
Error: Error evaluating expression: Net operating income	7.18	7.18		7.18	7.18
- Income tax	1.436	1.436		1.436	1.436
Error: Error evaluating expression: Net unlevered income	5.744	5.744		5.744	5.744

All of the estimates in the report seem correct. You note that the consultants used​ straight-line depreciation for the new equipment that will be purchased today​ (year 0), which is what the accounting department recommended. The report concludes that because the project will increase earnings by $5.744 million per year for ten​ years, the project is worth $57.44 million. You think back to your halcyon days in finance class and realize there is more work to be​ done!  

First, you note that the consultants have not factored in the fact that the project will require $8 million in working capital upfront​ (year 0), which will be fully recovered in year 10.​ Next, you see they have attributed $2.32 million of​ selling, general and administrative expenses to the​ project, but you know that $1.16 million of this amount is overhead that will be incurred even if the project is not accepted.​ Finally, you know that accounting earnings are not the right thing to focus​ on!

a. Given the available​ information, what are the free cash flows in years 0 through 10 that should be used to evaluate the proposed​ project?

The free cash flow for year 0 is −37 million. ​ (Round to three decimal places and enter a decrease as a negative​ number.)

The free cash flow for years 1 to 9 is $ million. ​(Round to three decimal places and enter a decrease as a negative​ number.)

b. If the cost of capital for this project is 10%​,what is your estimate of the value of the new​ project?

Answer 1