Question

The Spartan Technology Company has a proposed contract with the Digital Systems Company of Michigan. The initial investment in land and equipment will be $290,000. Of this amount, $270,000 is subject to five-year MACRS depreciation. The balance is in nondepreciable property. The contract covers six years; at the end of six years, the nondepreciable assets will be sold for $20,000. The depreciated assets will have zero resale value. Use Table 12-12. Use Appendix B for an approximate answer but calculate your final answer using the formula and financial calculator methods.

The contract will require an additional investment of $61,000 in working capital at the beginning of the first year and, of this amount, $41,000 will be returned to the Spartan Technology Company after six years.

The investment will produce $100,000 in income before depreciation and taxes for each of the six years. The corporation is in a 25 percent tax bracket and has a 15 percent cost of capital.

a. Calculate the net present value. (Do not round intermediate calculations and round your answer to 2 decimal places.)

Net present value= ___?___

Answer 1

Net present value = $  5,794.32

Please see the table below. Please be guided by the second column titled “Linkage” to understand the mathematics. The last row highlighted in yellow is your answer. Figures in parenthesis mean negative values. All financials are in $.

Year, n	Linkage	0	1	2	3	4	5	6
Depreciable basis	A	(270,000)
Non depreciable basis	B	(20,000)
Initial investment	C = A + B	(290,000)
5 years MACRS depreciation schedule	d		20.00%	32.00%	19.20%	11.52%	11.52%	5.76%
Incremental EBITDA	E		100,000	100,000	100,000	100,000	100,000	100,000
Depreciation	F = d x A		(54,000)	(86,400)	(51,840)	(31,104)	(31,104)	(15,552)
EBIT	G = E + F		46,000	13,600	48,160	68,896	68,896	84,448
NOPAT	H = G x (1 - 25%)		34,500	10,200	36,120	51,672	51,672	63,336
OCF	I = H - F		88,500	96,600	87,960	82,776	82,776	78,888
Investment in working capital	J	(61,000)						41,000
Proceeds from sale of non depreciable asset	K							20,000
Net cash flows	L = C + I + J + K	(351,000)	88,500	96,600	87,960	82,776	82,776	139,888
Discount rate	R	15%
Discount factor	DF = (1 + R)^(-n)	1.000000	0.869565	0.756144	0.657516	0.571753	0.497177	0.432328
PV of cash flows	PV = L x DF	(351,000)	76,957	73,043	57,835	47,327	41,154	60,477
NPV	Sum of all PVs	5,794.32