Using NPV, evaluate an investment in a hog farrow-to-finish enterprise. It is a
ID: 2783548 • Letter: U
Question
Using NPV, evaluate an investment in a hog farrow-to-finish enterprise. It is a small, capital-intensive system that utilizes the latest technology in feed distribution, waste disposal, and animal care. The system has a capacity of 280 litters per year with 140 sows farrowing every six months. The litters can be sold for $455 each at a cost of $380. Assume a cash purchase of the buildings, equipment, and livestock using the investor’s equity capital. Given the above and following information, fill out the following table with your calculations.
Initial Investment
$100,000 Buildings
$ 40,000 Equipment $ 10,080 Livestock
The breeding livestock fall in the three-year class for tax depreciation purposes while the buildings and equipment are in the eight-year class. Depreciation is calculated using straight line depreciation methods and assuming no salvage value. The government has offered an incentive to encourage investment in buildings and equipment. Depreciation on buildings and equipment can be accelerated to 12 their typical useful life.
Planning Horizon
The investor uses a 10-year planning horizon.
Terminal Value
The terminal value in year 10 is projected to be $30,000 and is fully taxable.
Required rate-of-return
The investor stipulates a required rate-of-return of 9 percent.
Net Cash Flows
Net cash flows to the investor are determined by deducting projected operating expenses and income tax obligations from projected operating receipts in each year of the planning period.
Remember that depreciation is a NONCASH expense that is used for calculating income taxes only.
The initial investment is a negative cash outflow at present.
The terminal value is considered part of the cash flow in the final period.
In response to inflation, both the operating receipts and expenses are projected to increase at 3 percent per year. For simplicity, an income tax rate of 20 percent is assumed.
Item Year 0 1 2 3 4 5 6 7 8 9 10 Operating Receipts Terminal Value Total Cash Inflow Initial Outlay Operating Expenses Depreciation Taxable Income Income Taxes Total Cash Outflow Net Cash Flow PART C: Net Present ValueExplanation / Answer
Answer:
Straight line depreciation formula = (initial value - salvage value)/ (no of years of useful life)
Terminal value is given $30000
Operating receipt : 280 litters * sales price = 280 *455 = $127400
Operating expense: 280 litters * cost price = 280*380 = $106400
Depreciation will be taken for the first 4 years only as for live stock it is 3 years and due to government benefit building and equipment will reduce to 4 years, using straight line depreciation
3% is the growth rate for both operating receipts and expense
Inital outley value : 100000(building) + 40000(Equipment) + 10080(livestock)
Add back depreciation in calculating net income as it is a non cash expense. we subtract it to get tax benefit
Present value formula is net cash flow/ (1 + interest rate/100)^ ( no of years)
Net present value is $117187.7
Depreciation calculation Depreciation on building and equipment falls under Government incentive per year depreciation value total amount/ (1/2*no of years) total amount 140000 No of years 8 per year depreciation value 35000 Livestock depreciation value 3360