Question

AAA Corp. currently has one​ product, high-priced lawn mowers. AAA Corp. has decided to sell a new line of​ medium-priced lawn mowers. The building and machinery for producing this new line is estimated to cost ​$10,000,000 and it will be depreciated down to zero over 20 years using​ straight-line depreciation.​ Also, an investment today on working capital in the amount of ​$4,000,000 is needed. The working capital will be recovered at the end of the project. Sales for the new line of lawn mowers are estimated at ​$29 million a year. Annual variable costs are 60​% of sales. The project is expected to last 10 years. In addition to the production variable​ costs, the fixed costs each year will be ​$3,000,000. The company has spent ​$1,500,000 in a marketing study that determined the company will lose ​$11 million in sales a year of its existing​ high-priced lawn mowers. The production variable cost of these sales is ​$9 million a year. It is expected that at the end of the​ project, the building and machinery can be sold for ​$5,000,000. The tax rate is 20 percent and the cost of capital is 6%.

Answer 1

A)	Plant and equipment	$   1,00,00,000
	Increase in NWC	$       40,00,000
	Initial outlay for the project	$   1,40,00,000
B)	Sales	$   2,90,00,000
	Variable cost 60%	$   1,74,00,000
	Fixed costs	$       30,00,000
	Depreciation (10000000/20)	$         5,00,000
	NOI from new line of medium priced lawn movers	$       81,00,000
	Less: Loss of contribution margin from existing high priced lawn movers = 11 million - 9 million =	$       20,00,000
	Incremental NOI	$       61,00,000
	Tax at 20%	$       12,20,000
	Incremental NOPAT	$       48,80,000
	Add: Depreciation	$         5,00,000
	Operating cash flows for t1 to t10	$       53,80,000
C)	After tax salvage value of plant and equipment = 5000000-[5000000-5000000*(1-20%)] =	$       50,00,000
	Recovery of NWC	$       40,00,000
	Terminal value cash flows	$       90,00,000
D)	PV of annual operating cash flows = 5380000*(1.06^10-1)/(0.06*1.06^10) =	$   3,95,97,268
	PV of terminal cash flows = 9000000/1.06^10 =	$       50,25,553
	Total PV of cash inflows	$   4,46,22,821
	Less: Initial investment	$   1,40,00,000
	NPV	$   3,06,22,821

As the NPV of the project is positive, it can be implemented.