Question

Aguilera Acoustics, Inc. (AAI), projects unit sales for a new seven-octave voice emulation implant as follows:

                        Year                            Unit Sales

                        1                                    9

                        2                                  10

                        3                                  12

                        4                                  13

                        5                                    8                    

Working capital requirements: For each year, the total investment in net working capital will equal 10% of the dollar value of sales of the next year. All working capital is liquidated at the termination of the project at the end of year 5.

Total fixed costs are $12 per year, variable production costs are $20 per unit, and the units are priced at $30 each. The equipment needed to begin production has an installed cost of $240. Because the implants are intended for professional singers, this equipment is considered industrial machinery and thus qualifies as seven –year MACRS property. In five years, this equipment can be sold for $70. AAI is in the 30 percent marginal tax bracket and has required return on all its projects of 15 percent. Based on these preliminary project estimates,

1. Calculate the cash flows from the project in the table below. (6)
2. What is the IRR of the project? (2)

(Round off the figures to nearest integer. Decimal figures not required)

MACR 7-year depreciation percentage

Year	1	2	3	4	5	6	7	8
Depreciation (%)	14.29%	24.49	17.49	12.49	8.93	8.92	8.93	4.46

Copy the following format on your notebook and solve. Structure is available. You have to plug in figures with the correct signand calculate project cash flows.

Excel submission is not allowed.

	0	1	2	3	4	5
Sales (No. of units)		9	10	12	13	8
SP per unit
VC per unit
Sales Revenue
Working capital
Depreciation
Sales
Variable Cost
Fixed Cost
Depreciation
EBIT
Taxes (@         )
NOPAT
Adjustments
Equipment Cost
Depreciation
Working Capital Changes
After tax Salvage
Total Cash Flows

Answer 1

a) The cash flows are calculated as given below

	Year
	0	1	2	3	4	5
Sales (no of units)		9.00	10.00	12.00	13.00	8.00
SP per unit		30.00	30.00	30.00	30.00	30.00
VC per unit		-20.00	-20.00	-20.00	-20.00	-20.00
Sales Revenue		270.00	300.00	360.00	390.00	240.00
Working capital	-27	-30.00	-36.00	-39.00	-24.00	0.00
Depreciation		-34.30	-58.78	-41.98	-29.98	-21.43
Sales ($)		270.00	300.00	360.00	390.00	240.00
Variable cost ($)		-180.00	-200.00	-240.00	-260.00	-160.00
Fixed Cost ($)		-12.00	-12.00	-12.00	-12.00	-12.00
Depreciation ($)		-34.30	-58.78	-41.98	-29.98	-21.43
Earnings before Tax ($)		43.70	29.22	66.02	88.02	46.57
Tax @39%		13.11	8.77	19.81	26.41	13.97
NOPAT ($)		30.59	20.46	46.22	61.62	32.60
Equipment Cost	-240
Depreciation		34.30	58.78	41.98	29.98	21.43
Working capital Changes	-27	-3.00	-6.00	-3.00	15.00	24.00
After tax Salvage value						65.06
Free Cashflows	-267	61.89	73.23	85.19	106.59	143.09

b)  IRR (r) of the project is the discount rate at which NPV = 0

So,

-267+ 61.89/(1+r)+ 73.23/(1+r)^2+85.19/(1+r)^3+106.59/(1+r)^4+143.09/(1+r)^5 = 0

Solving for r, we get r = 0.19057 or 19.06%