Question

In: Finance

Monhegan Computers is considering whether to begin offering customers the option to have their old personal...

Monhegan Computers is considering whether to begin offering customers the option to have their old personal computers recycled when they purchase new systems. The recycling system would require Monhegan to invest $650,000 in the grinders and magnets used in the recycling process (that is at t=0). The company estimates that for each system it recycles, it would generate $1.75 in incremental revenues from the sale of scrap metal and plastics. The recycled computers will cost the firm nothing, but it will cost the firm $0.25 per unit to dispose of the toxic elements from the recycled computer. The firm expects to use the recycling equipment for five years, and at t=5 sell the recycling equipment for $30,000. The machinery will be depreciated at the five-year MACRS depreciation schedule. (The MACRS depreciation schedule for a five year life is: year 1--20%, year 2--32%, year 3—19.2%, year 4—11.52%, year 5—11.52%, year 6—5.76%. Note that a five year life lasts 6 years because of the half year convention for the first year, but the machinery is sold at t=5.) During the life of the machine no new capital expenditures or investments in working capital will be required. Monhegan estimates that in the first year of the recycling project, it could recycle 110,000 PCs and that this number will grow by 20% per year over the remaining four-year life of the recycling equipment. Monhegan uses a 14% discount rate to analyze capital expenditures and pays taxes equal to 30%. You must calculate the PFCFs. What is the project’s NPV?

Solutions

Expert Solution

Initial Investment = Cost of recycling system = 650000

Depreciation under MACRS = rate x initial investment

Calculating depreciation under MACRS
Year 1 2 3 4 5
Rate 20% 32% 19.20% 11.52% 11.52%
Depreciation 130000.00 208000.00 124800.00 74880.00 74880.00

Calculating incremental revenues and incremental costs

As no of PCs sold each year increase by 20%, therefore

No of PCs sold in year 1 = 110000 ,

For other year 2 to 5 , no of PC sold in a year = no of PC sold in previous year x ( 1 + 20%)

Incremental Revenue for year = no of pc sold in a year x incremental revenue per pc from sale of scrap

Year 1 2 3 4 5
No of PC sold 110000 132000 158400 190080 228096
Incremental revenue per PC from sale of scrap 1.75 1.75 1.75 1.75 1.75
Incremental revenue for a year 192500 231000 277200 332640 399168

Incremental cost for a year = no of pc sold x incremental cost per pc to dispose a computer

Year 1 2 3 4 5
No of PC sold 110000 132000 158400 190080 228096
Incremental cost per PC for disposal 0.25 0.25 0.25 0.25 0.25
Incremental cost for a year 27500 33000 39600 47520 57024

Calculation of after tax operating cash flows

After tax operating cash flow for a year 1 to 5 =EBIT(1-tax rate) + depreciation = (incremental revenue - incremental cost - depreciation) (1-tax rate) + depreciation

Calculating after tax operating cash flow
Year 1 2 3 4 5
Incremental Revenue 192500.00 231000.00 277200.00 332640.00 399168.00
Incremental Cost 27500.00 33000.00 39600.00 47520.00 57024.00
Depreciation 130000.00 208000.00 124800.00 74880.00 74880.00
EBIT 35000.00 -10000.00 112800.00 210240.00 267264.00
EBIT(1-tax rate) 24500.00 -7000.00 78960.00 147168.00 187084.80
Plus: Depreciation 130000.00 208000.00 124800.00 74880.00 74880.00
After tax operating cash flow 154500.00 201000.00 203760.00 222048.00 261964.80

Calculating terminal cash flow

Book value of equipment at the end of five years = Initial investment - sum of depreciation for first five years

= 650000 - (130000 + 208000 + 124800 + 74880 + 74880) = 650000 - 612560 = 37440

Terminal cash flow =Salvage value of equipment at end of 5 years - tax paid on sale = Salvage value at end of 5 years - tax rate(Salvage value at end of 5 years - Book value at the end of 5 years)

Terminal cash flow = 30000 - 30%(30000 - 37440) = 30000 - (-2232) = 30000 + 2232 = 32232

Calculating PFCF

Calculating Projected Free cash flow (PFCF)
Year 1 2 3 4 5
After tax operating cash flow (a) 154500.00 201000.00 203760.00 222048.00 261964.80
Termnal Cash flow (b) 32232.00
PFCF or Net Cash Flow = (a) + (b) 154500.00 201000.00 203760.00 222048.00 294196.80

NPV of the project = - initial investment + sum of present values of PFCF from year 1 to 5

= -650000 + 154500/(1+14%) + 201000/(1+14%)2 + 203760/(1+14%)3 + 222048/(1+14%)4 + 294196.80/(1+14%)5

= - 650000 + 135526.32 + 154662.97 + 137532.20 + 131470.24 + 152796.60 = 61988.33

Therefore NPV of the project = 61988.33


Related Solutions

Saccomanno Industries Inc. is considering whether to discontinue offering credit to customers who are more than...
Saccomanno Industries Inc. is considering whether to discontinue offering credit to customers who are more than 10 days overdue on repaying the credit extended to them. Current annual credit sales are $10 million on credit terms of "net 30". Such a change in policy is expected to reduce sales by 10 percent, cut the firm's bad-debt losses from 5 to 3 percent, and reduce its average collection period from 72 days to 45 days. The firm's variable cost ratio is...
An insurance company is considering offering fire insurance to customers in a certain state.
  An insurance company is considering offering fire insurance to customers in a certain state. After examining thousands of records of insurance claims in the area, they have come up with the following information: Payout Number of Claims $58,971 22 28,117 602 0 2,972 First convert the table into a probability distribution by dividing each number in the "Claims" column by the total number of claims. Take probability calculations to 3 decimal places. Now, let X be the expected payout....
1. In order to attract customers, Lau's Books Co. is considering offering a lottery to anyone...
1. In order to attract customers, Lau's Books Co. is considering offering a lottery to anyone who visits the bookstore. The 2 lotteries under consideration are: Lottery A) one with a cash prize of $300 and a 10% probability of winning Lottery B) one with a cash prize of $400 and a 5% probability of winning. Which lottery is more attractive to a risk-averse individual? Explain in detail with the aid of a diagram. Which lottery is more attractive to...
"An oil and gas company is considering whether to begin drilling a new oil field. The...
"An oil and gas company is considering whether to begin drilling a new oil field. The company will need to pay $4.6 million as an initial investment in order to extract the oil. The company will operate the field for a total of 5 years, during which its annual profit will be $3,344,000. During the 6th year, the company will not operate or gain any revenue from the oil field, but it will need to pay $8,990,000 in environmental remediation...
Applying the Central Limit Theorem, suppose that personal computers (PC) have a mean of weight of...
Applying the Central Limit Theorem, suppose that personal computers (PC) have a mean of weight of 7.5 pounds with a standard deviation of 1.1 pounds. If you take a sample of the weight of 50 different brands of PC, the sample standard deviation is: Select one: a. 7.5 1.1 7.51.1 b. 1.1 50 √ 1.150 c. 7.5+1.1 7.5+1.1
Personal computers and other electronics have become integral to our lives. These machines, however, are made...
Personal computers and other electronics have become integral to our lives. These machines, however, are made with many products that during production and on disposal have an impact on the environment. Since the disposal of computers can be hazardous to our environment, some have suggested that when buying a computer system to buy one that will last as long as possible. You will have one attempt to complete the assignment. 1. Find an article on the Internet related to the...
a)parents who are considering whether to have their 3-month-old daughter Samantha’s vision disorder corrected. Samantha’s disorder,...
a)parents who are considering whether to have their 3-month-old daughter Samantha’s vision disorder corrected. Samantha’s disorder, which can be completely corrected only through surgery, involves an uneven curvature of the lens of each eyeball. Unless the problem is corrected, Samantha’s vision will forever be slightly out of focus in both eyes, even if she wears corrective eyeglasses or contact lens. b) hearing parents who are considering whether to have ear surgery conducted to their 1-year-old son Steve. Steve is born...
Call option: Personal finance problem   Carol Krebs is considering buying 100 shares of Sooner​ Products, Inc.,...
Call option: Personal finance problem   Carol Krebs is considering buying 100 shares of Sooner​ Products, Inc., at ​$61 per share. Because she has read that the firm will probably soon receive certain large orders from​ abroad, she expects the price of Sooner to increase to ​$65 per share. As an​ alternative, Carol is considering the purchase of a call option for 100 shares of Sooner at a strike price of $56. The​ 90-day option will cost ​$900. Ignore any brokerage...
Call option: Personal finance problem   Carol Krebs is considering buying 100 shares of Sooner​ Products, Inc.,...
Call option: Personal finance problem   Carol Krebs is considering buying 100 shares of Sooner​ Products, Inc., at ​$61 per share. Because she has read that the firm will probably soon receive certain large orders from​ abroad, she expects the price of Sooner to increase to ​$65 per share. As an​ alternative, Carol is considering the purchase of a call option for 100 shares of Sooner at a strike price of $56. The​ 90-day option will cost ​$900. Ignore any brokerage...
Use the data below to test whether the average deposits of customers have increased since the...
Use the data below to test whether the average deposits of customers have increased since the change. Use 0.05 as the level of significance. Note that the difference in Deposits is already calculated as Increase in Deposits. Deposit After 30.6 18.1 19.3 31.0 21.9 21.3 24.1 18.4 19.6 18.9 30.6 19.3 29.0 21.7 18.6 20.4 27.6 26.7 27.7 19.8 19.3 20.1 18.2 18.5 25.3 30.8 30.1 23.6 30.1 23.8 25.3 26.0 25.4 31.9 26.2 29.6 19.1 25.6 23.0 18.9 21.9...
ADVERTISEMENT
ADVERTISEMENT
ADVERTISEMENT