Question

Consider a project to supply Detroit with 30,000 tons of machine screws annually for automobile production. You will need an initial $4.3 million investment in threading equipment to get the project started; the project will last for five years. The accounting department estimates that annual fixed costs will be $1.025 million and that variable costs should be $190 per ton; accounting will depreciate the initial fixed asset investment straight-line to zero over the five-year project life. It also estimates a salvage value of $400,000 after dismantling costs. The marketing department estimates that the automakers will let the contract at a selling price of $290 per ton. The engineering department estimates you will need an initial net working capital investment of $410,000. You require a return of 13 percent and face a tax rate of 22 percent on this project.

a-1.	What is the estimated OCF for this project?
a-2.	What is the estimated NPV for this project?
b.	Suppose you believe that the accounting department’s initial cost and salvage value projections are accurate only to within ±15 percent; the marketing department’s price estimate is accurate only to within ±10 percent, and the engineering department’s networking capital estimate is accurate only to within ±5 percent. What is your worst-case and best-case scenario for this project?

Answer 1