Question

Data Mining is considering an expansion project. The company’s management has decided that the initial cost of the project is $300,000 with an additional installment cost of $80,000 and a $30,000 cost for research purposes related to the project. The project’s life is four years with a salvage value of $60,000 and it will be depreciated over four years using the straight-line method.

Management has also decided that $45,000 in inventories and $12,000 in accounts payable are needed if the project is taken today.

During the next four years, total sales are expected to be 525,100, 642,000, 504,400 and 698,500 respectively and total operating costs (excluding depreciation) are expected to be 234,000, 302,300, 272,000 and 440,000 respectively.

The weighted average cost of capital is at 10% and the tax rate is 40%.

1. The net working capital (NWC) equals: *

A. $33,000

B. $45,000

C. $57,000

D. $47,000

E. None of the above

2. The base price of the equipment equals: *

A. $300,000

B. $380,000

C. $220,000

D. $410,000

E. None of the above

3. What is the net cost of the equipment for capital budgeting purposes? *

A. $410,000

B. $412,000

C. $413,000

D. $443,000

E. None of the above

4. The depreciation expense for the 1st year is: *

A. $103,250

B. $95,000

C. $80,000

D. $87,500

E. None of the above

5. The depreciation expense for the 2nd year is: *

A. $103,250

B. $95,000

C. $80,000

D. $87,500

E. None of the above

6. The depreciation expense for the 3rd year is: *

A. $103,250

B. $95,000

C. $80,000

D. $87,500

E. None of the above

7. The depreciation expense for the 4th year is: *

A. $103,250

B. $95,000

C. $80,000

D. $87,500

E. None of the above

8. The after-tax Cash Flow for the 1st year is: *

A. $291,100

B. $206,660

C. $209,660

D. $187,830

E. None of the above

9. The after-tax Cash Flow for the 2nd year is: *

A. $203,820

B. $235,820

C. $238,820

D. $339,700

E. None of the above

10. The after-tax Cash Flow for the 3rd year is: *

A. $132,330

B. $139,440

C. $171,440

D. $174,440

E. None of the above

11. The after-tax Cash Flow for the 4th year is: *

A. $258,500

B. $235,100

C. $187,100

D. $190,100

E. None of the above

12. The Book Value of the equipment at termination is: *

A. $32,000

B. $0

C. $60,000

D. $24,000

E. None of the above

13. The Terminal Value (TV) is: *

A. $24,000

B. $60,000

C. $69,000

D. $93,000

E. None of the above

14. The NPV value of the project is: *

A. -$25,660

B. $104,320

C. $273,490

D. $457,020

E. None of the above

Answer 1

(1) Networking Capital = current assets - current liabilities

Given Inventory = 45,000$

Accounts Payable = 12,000$

Networking Capital = 45000-12000 = 33,000$

Hence Option A is the correct answer.

(2) Base Price of Equipment = Cost of Equipment + Installation expenses = 300,000+80,000 = 380,000$

Hence Option B is the correct answer.

(3) Net Cost of equipment for capital Budgeting purposes = Base Price of equipment + working capital

= 380,000+33,000

=413,000$

Hence C Option is the correct answer.

(4)Depreciation = (Base Price - Salvage Value) / Tenure of the project = (380,000-60,000)/4 = 80,000$

(5,6,7) Under straight line method, Depreciation will be same over four years, therefore 80,000$ is the depreciation amount . Hence option C is correct in case of the three questions.

(8)

Particulars	Year 1	Year 2	Year 3	Year 4
Sales	525100	642000	504400	698500
Less:Operating Expenses	-234000	-302300	-272000	-440000
EBITDA	291100	339700	232400	258500
Less: Depreciation	-80000	-80000	-80000	-80000
EBIT	211100	259700	152400	178500
Less: Interest	0	0	0	0
EBT	211100	259700	152400	178500
Less :Tax@40%	-84440	-103880	-60960	-71400
PAT	126660	155820	91440	107100
Add: Depreciation	80000	80000	80000	80000
After Tax Cash Flow	206660	235820	171440	187100

(8) For first year after tax Cash flow is 206,660$ which is option B

(9) For Second year after tax Cash flow is 235,820$ which is option B

(10) For third year after tax Cash flow is 171,440$ which is option C

(11) For fourth year after tax Cash flow is 187,100$ which is option C

(12)Book value of euipment at termination will be salvage value that is 60,000$ which is option C

(13) Terminal Value = Salvage Value + working capital = 60,000+33,000 = 93,000$ Hence option D is the Correct answer.

(14)

Particulars	Year 0	Year 1	Year 2	Year 3	Year 4
Cash Outflow	-380000
After Tax Cash Flow		206660	235820	171440	187100
Salvage Value					60,000
Working Capital					33000
PV Factor @10%	1	0.909091	0.826446	0.751315	0.683013
PRESENT VALUES	-380000	187872.7	194892.6	128805.4	191312.1
NPV	322882.7676

I assumed that working capital is recovered at the end of year 4

Hence option E is the correct answer