Quad Enterprises is considering a new three-year expansion project that requires
ID: 2777666 • Letter: Q
Question
Quad Enterprises is considering a new three-year expansion project that requires an initial fixed asset investment of $2.55 million. 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 $2,030,000 in annual sales, with costs of $725,000. The project requires an initial investment in net working capital of $250,000, and the fixed asset will have a market value of $285,000 at the end of the project. If the tax rate is 35 percent, what is the project’s Year 0 net cash flow? Year 1? Year 2? Year 3? (Do not round intermediate calculations. Enter your answers in dollars, not millions of dollars, e.g. 1,234,567. Negative amounts should be indicated by a minus sign.)
If the required return is 15 percent, what is the project's NPV? (Do not round intermediate calculations and round your final answer to 2 decimal places, e.g., 32.16.)
Years Cash Flow Year 0 $ Year 1 $ Year 2 $ Year 3 $Explanation / Answer
Year Cash Flow
Year 0 $ -2,800,000
Year 1 $ 1,145,750
Year 2 $ 1,145,750
Year 3 $ 1,581,000
Notes:
Year 0 : we will not be having any income at the initial stage. so cash flow will be negative.
Cash Flow at year 0 = - {2.55 m (Initial Investment) + 0.25 m (Net Working Capital)}
= $ -2,800,000
Year 1 and 2 :
Cash Flow at year 1 and 2 = Sales - Cost - Tax paid
= 2,030,000 - 725,000 - 159,250
= $ 1,145,750
Calculation of Tax Paid:
Value of Fixed Asset = $ 2,550,000
Depreciation amount for year = 2,550,000/3 = $ 850,000
Profit after Depreciation = 2,030,000 - 725,000 - 850,000 = $ 455,000
Tax Paid at 35% = 455,000*35% = $ 159,250
Year 3 :
Cash Flow at year 3 = Sales - Cost + Initial working capital investment + Market value of Fixed Asset after 3 years - Tax paid
= 2,030,000 - 725,000 + 250,000 + 285,000 - 259,000
= $ 1,581,000
Calculation of Tax Paid:
Value of Fic=xed Asset = 2,550,000
Depreciation amount for year = 2,550,000/3 = 850,000
Profit after Depreciation = 2,030,000 - 725,000 - 850,000 + 285,000 ( Market value of Fixed Asset after 3 years)
= $ 740,000
Tax Paid at 35% = 740,000*35% = $ 259,000
Calculation of NPV:
Expected Return is 15%. So Discount factor can be calculated as bellow.
Year 1 : 1/1.15 = 0.8696
Year 2 : 1/(1.15*1.15) = 0.7561
Year 3 : 1/(1.15*1.15*1.15) = 0.6575
So NPV = sum of all year's cash flow with discounting factor - initial investment
= 1,145,750 * 0.8696 + 1,145,750 * 0.7561 + 1,581,000 *0.6575 - 2,800,000
= 996344.2 + 866301.58 + 1039507.5 - 2,800,000
NPV = $ 102153.28