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Johnson Inc is thinking about launching a new item. The initial investment in equipment is $600,000....

Johnson Inc is thinking about launching a new item. The initial investment in equipment is $600,000. The project has an estimated life of five years. The revenue per year is estimated to be $400,000, and operating costs per year is estimated to be $200,000.

The investment in the net working capital will be $40,000 at the beginning of the project; 40% of this will be recovered at the end of year 4, and the rest at the end of year 5. The tax rate is 30% and the CCA rate for depreciation purposes is 20%. The equipment can be sold at the end of the project for $60,000.

There is an on-going feasibility study regarding the project. The feasibility study is done by RTX Cons Group. They have been paid $50,000 a year ago, and they will be paid another $50,000 today. The cost of capital for the project is 10%. Calculate the NPV of the project to see if the company should undertake this project.

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Expert Solution

Particulars 0 1 2 3 4 5
Revenues $ 400,000.00 $ 400,000.00 $ 400,000.00 $ 400,000.00 $ 400,000.00
Salvage value $    60,000.00
Less:
expenses $(200,000.00) $(200,000.00) $(200,000.00) $(200,000.00) $(200,000.00)
Depreciation $(120,000.00) $(120,000.00) $(120,000.00) $(120,000.00) $(120,000.00)
Profit before tax $    80,000.00 $    80,000.00 $    80,000.00 $    80,000.00 $ 140,000.00
Less: taxes @30% $   (24,000.00) $   (24,000.00) $   (24,000.00) $   (24,000.00) $   (42,000.00)
Profit after tax $    56,000.00 $    56,000.00 $    56,000.00 $    56,000.00 $    98,000.00
Add/ (less) :
Depreciation $ 120,000.00 $ 120,000.00 $ 120,000.00 $ 120,000.00 $ 120,000.00
Investment $(600,000.00)
Working capital $   (40,000.00) $                   -   $                   -   $                   -   $    16,000.00 $    24,000.00
Cash flow for the year $(640,000.00) $ 176,000.00 $ 176,000.00 $ 176,000.00 $ 192,000.00 $ 242,000.00
× discount factor @10%            1.00000            0.90909            0.82645            0.75131            0.68301            0.62092
Present value $(640,000.00) $ 160,000.00 $ 145,454.55 $ 132,231.40 $ 131,138.58 $ 150,262.96
NPV (total present value) $    79,087.49

NPV is positive, project is taken.

feasibility study costs are sunk costs and ignored in calculation.

jeff jeffy answered 1 year ago
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