Cochrane, Inc., is considering a new three-year expansion project that requires
ID: 2731230 • Letter: C
Question
Cochrane, Inc., is considering a new three-year expansion project that requires an initial fixed asset investment of $1,860,000. The fixed asset will be depreciated straight-line to zero over its three-year tax life, after which time it will be worthless. The project is estimated to generate $1,950,000 in annual sales, with costs of $1,060,000. The project requires an initial investment in net working capital of $150,000, and the fixed asset will have a market value of $175,000 at the end of the project. Assume that the tax rate is 35 percent and the required return on the project is 14 percent. What are the net cash flows of the project for the following years? (Do not round intermediate calculations. Negative amounts should be indicated by a minus sign. Enter your answers in dollars, not millions of dollars (e.g., 1, 234,567).) What is the NPV of the project? (Do not round intermediate calculations. Enter your answer in dollars, not millions of dollars (e.g., 1, 234,567). Round your answer to 2 decimal places (e.g., 32.16).)Explanation / Answer
Project Initial Cost = $1860000+$150000 = $2,010,000 Annual Straight Line Depriciation = $1860000/3 years = $620,000 Net cash flow can be calculated as follows: Before tax CFs*(1-tax rate)+Tax Rate*depreciation Years 0 1 2 3 1 Initial cost ($2,010,000) $0 $0 $0 2 Annual Sale $1,950,000 $1,950,000 $1,950,000 3 Less: Cost $1,060,000 $1,060,000 $1,060,000 4 Before Depriciation & tax CFs $890,000 $890,000 $890,000 5 Less :Depreciation $620,000 $620,000 $620,000 6 Before tax CFs $270,000 $270,000 $270,000 7 Tax@35% $94,500 $94,500 $94,500 8 After tax CFs $175,500 $175,500 $175,500 Depreciation tax shield $217,000 $217,000 $217,000 9 (Depericiation * Tax Rate) 10 Net cash flow from operation $392,500 $392,500 $392,500 11 Working capital released $0 $0 $150,000 12 Fixed Asset at the end $0 $0 $175,000 13 Net cash flow(10+11+12) $392,500 $392,500 $717,500 14 PVF at 14% 1 0.8772 0.7695 0.675 15 PV (13*14) ($2,010,000) $344,301 $302,029 $484,313 16 NPV ($879,358)