Question

                                                                   Income Statement

                                                     For the Year Ended December 31, 2009

Sales (all on credit) …………………………………………………………… $ 4,000,000

Cost of Goods Sold…………………………………………………………………3,000,000

                                                                                                           ___________

Gross Profit………………………………………………………………………….$ 1,000,000

Selling and Administrative Expenses…………………………………….      450,000

                                                                                                           _____________

Operating Profit ……………………………………………………………………$   550,000

Interest Expense……………………………………………………………………       50,000

Extraordinary Loss………………………………………………………………….    200,000

Earnings Before Taxes……………………………………………………………$   300,000

Income Taxes (33%)……………………………………………………………….     100,000

Net Income…………………………………………………………………………….$ 200,000

                                                                   Income Statement

                                                     For the Year Ended December 31, 2009

Sales (all on credit) …………………………………………………………… $ 4,000,000

Cost of Goods Sold…………………………………………………………………3,000,000

                                                                                                           ___________

Gross Profit………………………………………………………………………….$ 1,000,000

Selling and Administrative Expenses…………………………………….      450,000

                                                                                                           _____________

Operating Profit ……………………………………………………………………$   550,000

Interest Expense……………………………………………………………………       50,000

Extraordinary Loss………………………………………………………………….    200,000

Earnings Before Taxes……………………………………………………………$   300,000

Income Taxes (33%)……………………………………………………………….     100,000

Net Income…………………………………………………………………………….$ 200,000

                            Balance Sheet

                                                                   As of December 31, 2009

                                                                             Assets

Cash…………………………………………………………………………… $   30,000

Accounts Receivable…………………………………………………..     350,000

Marketable Securities ………………………………………………..       50,000

Inventory…………………………………………………………………….     370,000

                                                                                                  ____________

Total Current Assets……………………………………………………. $ 800,000

Net Plant and Equipment……………………………………………..     800,000

                                                                                                   ____________

Total Assets………………………………………………………………….$ 1,600,000   

                                                                  Liabilities and Stockholders’ Equity

Accounts Payable…………………………………………………………..$   50,000

Notes Payable………………………………………………………………..   250,000

                                                                                                   _____________

Total Current Liabilities…………………………………………………..$ 300,000

Long Term Liabilities………………………………………………………… 300,000

                                                                                                      ____________                                  

Total Liabilities ………………………………………………………………..$ 600,000

Common Stock…………………………………………………………………. 400,000

Retained Earnings…………………………………………………………….. 600,000

                                                                                                        ____________

Total Stockholders’ Equity……………………………………………….$ 1,000,000

                                                                                                        ____________

Total Liabilities and Stockholders’ Equity………………………… $ 1,600,000

• The firm is looking to expand its operations by 10% of the firm's net property, plant, and equipment. (Calculate this amount by taking 10% of the property, plant, and equipment figure that appears on the firm's balance sheet.)
• The estimated life of this new property, plant, and equipment will be 12 years. The salvage value of the equipment will be 5% of the property, plant and equipment's cost.
• The annual EBIT for this new project will be 18% of the project's cost.
• The company will use the straight-line method to depreciate this equipment. Also assume that there will be no increases in net working capital each year. Use 35% as the tax rate in this project.
• The hurdle rate for this project will be the WACC that you are able to find on a financial website, such as Gurufocus.com. If you are unable to find the WACC for a company, contact your instructor. He or she will assign you a WACC rate.
• Calculations:
• Your calculations for the amount of property, plant, and equipment and the annual depreciation for the project
• Your calculations that convert the project's EBIT to free cash flow for the 12 years of the project.
• The following capital budgeting results for the project
  • Net present value
  • Internal rate of return
  • Discounted payback period.

Answer 1

As WACC is not provided , we will calculate with the available informations

and some assumptions--- ONLY under which this question can be done.

(evev under Gurufocus.com, we need beta of the company)

WACC= (Wt.of debt*Cost of debt)+(Wt. of equity*Cost of equity)

ie. WACC=(Wt.d*kd)+(Wt. e*ke)

Now, for before-tax cost of debt= Interest expense/Long-term debt

ie.50000/300000=

16.67%

So, after-tax cost of debt=Before tax cost*(1-Tax Rate)

ie. 16.67%*(1-35%)=

10.84%

Now, for cost of equity,

as neither company name nor any beta ,being available

Assuming, all net income are paid out as dividends,

under the assumption, retention ratio =0 , so sustainable growth rate= ROE*RR will be 0

so, we calculate cost of equity as follows:

Book value Cost of equity=$ dividend/total equity

ie. 200000/1000000=

20%

Wt. of debt=300000/(1000000+300000)= 3/13

Wt.of Equity=1000000/(1000000+300000)= 10/13

WACC=(3/13*10.84%)+(10/13*20%)=

17.89%

Investment in plant =(800000*10%)=	-80000
EBIT=80000*18%=	14400
EBIT is after depn.of (Cost-Salvage value)/no.of yrs.--ie.(80000-(80000*5%))/12=	6333
EAT=14400*(1-35%)=	9360
Add back: depn.	6333
OCF/annual FCF (for yrs. 1-12)	15693
Additional FCF in Yr.12 --after-tax Salvage(BV=SV=4000; so no gain no loss )	4000

So, tabulating the FCFs
Year	0	1	2	3	4	5	6	7	8	9	10	11	12
1.Initial investment	-80000
2.FCFs (as calculated above)		15693	15693	15693	15693	15693	15693	15693	15693	15693	15693	15693	19693
3.Total FCFs(1+2)	-80000	15693	15693	15693	15693	15693	15693	15693	15693	15693	15693	15693	19693
4.PV F at (WACC)17.89%	1	0.84825	0.71953	0.61034	0.51772	0.43915	0.37251	0.31598	0.26803	0.22736	0.19285	0.16359	0.13876
5.PV at 17.89%(3*4)	-80000	13311.56	11291.51	9578.01	8124.53	6891.62	5845.80	4958.69	4206.20	3567.90	3026.47	2567.20	2732.68
6.NPV at 17.89%(sum of Row 5)	-3897.8
7.IRR(of Row 3-FCF)	16.66%
Discounted payback period
As the NPV is NEGATIVE, it does not pay back within 12 years.
Ordinary payback period
Cumulative FCFs(Row 3)	-80000	-64307	-48614	-32921	-17228	-1535	14158	29851	45544	61237	76930	92623	112316
P/B=5+(1535/15693)=
5.10
Years