Question

TapsiCo is a manufacturer of soft drinks. TapsiCo owns a land in Georgia that can be used for building a Distribution Center (DC). The company has estimated that it will cost $1M to build a high technology DC, which will lead to cost savings of 250 thousand dollars per year.

The company is planning to use the DC for only 3 years and sell it at book value at the end of the third year. The DC has a life-time of 5 years after which its salvage value is $500,000. The company is using a straight-line method for calculating the depreciation.

Assume a tax rate of 20% and a discount rate of 5%. Ignore inflation.

The company wants to conduct a financial analysis of the investment and decide if it should build the DC. Answer the questions below.

What is the yearly depreciation amount in thousands of dollar?

Part 1

If TapsiCo decides to build the DC, what would be the projected EBITDA (in thousands of dollars) associated with the investment at the end of year 1?

Part 2

If TapsiCo decides to build the DC, what would be the projected NOPAT (in thousands of dollars) associated with the investment at the end of year 3?

Part 3

If TapsiCo decides to build the DC, what would be the projected Free Cash Flow (CFC) in thousands of dollars in each time period asked below? Assume there is no change in the working capital as a result of building the DC.

In the beginning of year 1?

At the end of year 1?

At the end of year 2?

At the end of year 3?

Part 4

If TapsiCo decides to build the DC, what would be the Net Present Value (NPV) in thousands of dollars of the investment?

Part 5

TapsiCo has the option of not building the DC and instead selling the land in the beggining of the first year. The land will sell for $450,000. With this information should the company build the DC or sell the land?

Build the DC

Sell the land

Answer 1

Part 1]

yearly depreciation = (cost of DC - salvage value) / useful life = ($1M - $500,000) / 5 = $100,000 which is 100 thousand $

Part 2]

EBITDA = net cost savings = $250,000 which is 250 thousand $

Part 3]

NOPAT = (EBITDA - Depreciation)*(1 - tax rate)

NOPAT = ($250,000 - $100,000)*(1 - 20%) = $120,000 which is 120 thousand $

Part 4]

Net cash from sale of DC = book value = cost - accumulated depreciation = $1M - ($100,000 * 3) = $700,000

FCF in years 1 and 2 = NOPAT + depreciation

FCF in year 3 = NOPAT + depreciation + net cash from sale of DC

Part 5]

NPV is calculated as the sum of present values of each year's FCF, discounted at 5%

NPV is $203,801 which is 203.801 thousand $

Part 6]

If the company can sell the land for $450,000, it should sell the land and not build the DC. This is because the NPV of selling the land is higher than the NPV of building the DC