Question

Guthrie Enterprises needs someone to supply it with 180,000 cartons of machine screws per year to support its manufacturing needs over the next five years, and you’ve decided to bid on the contract. It will cost $2,350,000 to install the equipment necessary to start production; you’ll depreciate this cost straight-line to zero over the project’s life. You estimate that in five years this equipment can be salvaged for $190,000. Your fixed production costs will be $675,000 per year, and your variable production costs should be $9.27 per carton. You also need an initial investment in net working capital of $345,000. If your tax rate is 21 percent and you require a 12 percent return on your investment, what bid price per carton should you submit?

Answer 1

Variable cost (180000*9.27)			1668600
Fixed cost			675000
Depreciation(2350000/5)			470000
Total cost			2813600
Less: Tax savings @ 21%			590856
After tax cost			2222744
Less: Depreciation			470000
Annnual after tax cash outfows				-1752744
Annuity PVF at 12% fr 5 yrs				3.60478
Present value of outflows				-6318257
Present value of initial investment				-2350000
Present value of WC investment				-345000
Total cash outflows				-9013257
Less: Present value of after tax salvage				85170.79
	(190000-21%)*0.567427
Less: Present value of WC release				195762.3
	(345000*0.567427)
Present value of outflows				-8732323
Divide: Annuity pVF at 12% for 5yrs				3.60478
Annuity Equivalennt outflows				-2422429
After tax inflows requried each year				2422429
Add: Tax (2422429/79*21)				643936.8
Before tax cash inflows required				3066366
Divide: Units produced annually				180000
Unit price				17.04
Answer is 17.04