Question

Bauer Industries is a truck manufacturer. Management is currently evaluating a proposal to develop a new truck model. The company decided to start targeting urban females as potential truck owners. The life of this project is estimated at 3 years. Management has calculated that the costs of building another factory line equal $60,000,000, which will be depreciated using a straight line schedule over 10 years. The company will incur design and engineering costs of another $5,000,000 in year 0. The manufacturer expects a working capital contribution of $15,000,000 to build necessary inventory in year 0. Bauer expects to sell 6,000 trucks at a wholesale price of $60,000 in year 1. Revenue is expected to increase by 15% year-over-year in following years. Costs of goods sold are estimated at 40% of truck sales. Selling, general and administrative expenses equal to 20% of truck sales every year. Assume the tax rate of 35% and cost of capital of 10%. Hint: do not include depreciation in years 4 through 10 in the calculation of project’s NPV.

E. Bauer estimated that 3% of the customers potentially interested in purchasing one of the existing truck models will buy a new truck instead. On average, Bauer sells 50,000 trucks for a wholesale price of $55,000. Assume cost of goods sold is estimated at 40% of truck sales. Calculate the NPV of this project

F. Assume that after the life of the project Bauer plans to liquidate the factory line and estimates the proceeds to be around $25,000,000. Calculate the NPV of this project

Answer 1

Solution E	Tax rate		35%
	Calculation of annual depreciation
	Depreciation		Year-1	Year-2	Year-3			Total
	Cost (60+5)		$   65,000,000	$   65,000,000	$   65,000,000
	Dep Rate (1/10)		10.00%	10.00%	10.00%
	Depreciation	Cost * Dep rate	$     6,500,000	$     6,500,000	$     6,500,000			$   19,500,000
	Calculation of after-tax salvage value
	Cost of machine			$   65,000,000
	Depreciation			$   19,500,000
	WDV	Cost less accumulated depreciation		$   45,500,000
	Sale price
	Profit/(Loss)	Sale price less WDV		($45,500,000)
	Tax	Profit/(Loss)*tax rate		($15,925,000)
	Sale price after-tax	Sale price less tax		$15,925,000
	Calculation of lost contribution
			Year-1	Year-2	Year-3
	No of units-3% of 50000		1,500	1,500	1,500
	Selling price		$          55,000	$          55,000	$          55,000
	Operating cost-40%		$          22,000	$          22,000	$          22,000
	Sale		$   82,500,000	$   82,500,000	$   82,500,000
	Less: Operating Cost		$   33,000,000	$   33,000,000	$   33,000,000
	Contribution		$   49,500,000	$   49,500,000	$   49,500,000
	Calculation of annual operating cash flow
			Year-1	Year-2	Year-3
	No of units		6,000	6,900	7,935
	Selling price		$          60,000	$          60,000	$          60,000
	Operating cost-40%		$          24,000	$          24,000	$          24,000
	Sale		$360,000,000	$414,000,000	$476,100,000
	Less: Operating Cost		$144,000,000	$165,600,000	$190,440,000
	Contribution		$216,000,000	$248,400,000	$285,660,000
	Less: General & Admin cost @ 20%		$   72,000,000	$   82,800,000	$   95,220,000
	Less: Contribution lost on old trucks		$   49,500,000	$   49,500,000	$   49,500,000
	Less: Depreciation		$     6,500,000	$     6,500,000	$     6,500,000
	Profit before tax (PBT)		$   88,000,000	$109,600,000	$134,440,000
	Tax@35%	PBT*Tax rate	$   30,800,000	$   38,360,000	$   47,054,000
	Profit After Tax (PAT)	PBT - Tax	$   57,200,000	$   71,240,000	$   87,386,000
	Add Depreciation	PAT + Dep	$     6,500,000	$     6,500,000	$     6,500,000
	Cash Profit after-tax		$   63,700,000	$   77,740,000	$   93,886,000
	Calculation of NPV
							10.00%
	Year		Capital	Working capital	Operating cash	Annual Cash flow	PV factor, 1/(1+r)^time	Present values
	0		$     (65,000,000)	$     (15,000,000)		$      (80,000,000)	1.0000	$     (80,000,000)
	1				$   63,700,000	$        63,700,000	0.9091	$       57,909,091
	2				$   77,740,000	$        77,740,000	0.8264	$       64,247,934
	3		$       15,925,000	$       15,000,000	$   93,886,000	$      124,811,000	0.7513	$       93,772,352
							Net Present Value	$     135,929,376
Solution F
	Calculation of after-tax salvage value
	Cost of machine			$   65,000,000
	Depreciation			$   19,500,000
	WDV	Cost less accumulated depreciation		$   45,500,000
	Sale price			$   25,000,000
	Profit/(Loss)	Sale price less WDV		($20,500,000)
	Tax	Profit/(Loss)*tax rate		$   (7,175,000)
	Sale price after-tax	Sale price less tax		$   32,175,000
	Calculation of NPV
							10.00%
	Year		Capital	Working capital	Operating cash	Annual Cash flow	PV factor, 1/(1+r)^time	Present values
	0		$     (65,000,000)	$     (15,000,000)		$      (80,000,000)	1.0000	$     (80,000,000)
	1				$   63,700,000	$        63,700,000	0.9091	$       57,909,091
	2				$   77,740,000	$        77,740,000	0.8264	$       64,247,934
	3		$       32,175,000	$       15,000,000	$   93,886,000	$      141,061,000	0.7513	$     105,981,217
							Net Present Value	$     148,138,242