Part A) Calculate the project after-tax cash flow in years 0 through 5 and using

Question

Part A) Calculate the project after-tax cash flow in years 0 through 5 and using a
minimum rate of return of 20%, determine the project after-tax NPV and DCFROR.
Please be sure to include a cumulative column in your ATCF model to make sure the
model is balanced.

Part B) Make a sensitivity analysis to Part A assuming 40% Bonus Depreciation was
taken beginning in year 2 on the equipment cost only. Remember in addition to the
40% deduction, the investor could also take the MACRS depreciation allowed on the
remaining 60% basis in the property starting in year 2. Recalculate the NPV @20%
and the new project DCFROR.

Suppose you have an opportunity to build a business. It would involve acquiring a piece of ground for $750,000 today at time zero. A facility for your business would be constructed on the land. It would be a multi-unit commercial facility and you would occupy half of it and hope to rent out the other half. The construction cost of the building would be $2,900,000. Allocate half of the capital cost today and assume the remaining 50% would be incurred in year 1 . Start building depreciation on the total cost in year one assuming the building was ready for occupancy and placed into service in September of calendar year 1 (this is non-residential real property) Equipment related to the business will cost $1,500,000 at the end of year 1 and should be treated as 7-year MACRS property with depreciation beginning in year 2 Rental income from the rest of the building will be $500,000 per year in years 2-5 and should be treated as ordinary income. Property taxes and insurance for the entire facility are estimated at $55,000 per year in years 1 through 5. Your business is expected to generate $4,000,000 per year in revenues in years 2-5 with cost of goods sold estimated to be $2,300,000 per year inclusive of labor, overhead, and energy. Working capital will represent a $350,000 year 1 investment and will be returned in the final year 5 when the project is sold for an assumed $10,000,000. Assume a LIFO treatment of inventory with no changes in inventory levels predicted over the project life. Legal fees and commissions on the sale would be 5% of the sale value and deductible against the sale revenue. Write off all remaining book values including land and working capital at the end of year 5 and assume the project is held in a corporation and subject to an effective state and federal income tax rate of 38%. Assume other income exists (Expense scenario) which you could use if you have negative taxable income.

Explanation / Answer

BASE CASE Year 0 1 2 3 4 5 Cost of ground -750000 Cost of building -1450000 -1450000 Cost of equipment -1500000 NWC -350000 350000 So, after-tax sale proceeds 7333793 CAPEX/NWC cash flows-----1 -2200000 -3300000 0 0 0 7683793 Sales Revenue 4000000 4000000 4000000 4000000 Rental income 500000 500000 500000 500000 Less: COGS 2300000 2300000 2300000 2300000 Property tax 55000 55000 55000 55000 55000 Equipment depn. 214350 367350 262350 187350 Depn.onbldgs(0.749%;2.564%) 21721 74356 74356 74356 74356 Income before tax -76721 1856294 1703294 1808294 1883294 Tax at 38% -29153.98 705391.72 647251.72 687151.72 715651.72 Income after tax -47567.02 1150902.3 1056042.3 1121142.3 1167642.3 Add Back depn.(Equip.+Bldgs.) 21721 288706 441706 336706 261706 Annual Operating Cashflow----2 -25846.02 1439608.3 1497748.3 1457848.3 1429348.3 Net annual cash flows-----1+2 -2200000 -3380846 12584608 12642748 12602848 20258141 PV F at 20% 1 0.83333 0.69444 0.57870 0.48225 0.40188 PV at 20% -2200000 -2817372 8739311 7316405 6077762 8141293 NPV 25257400 DCF ROR is the IRR on discounted cash flows= 103% After-tax sale proceeds: Land 750000 Building 2900000 Equipment 1500000 Total cost of the project 5150000 Total Acc.depn.(Equip.+Bldgs.) 1350545 Book value 3799455 Sale value 10000000 Less: Legal fees & commns 5% 500000 Net sale proceeds 9500000 Gain on sale 5700545 Tax on gain 2166207 So, after-tax sale proceeds(less gains tax) 7333793 2 BONUS DEPRECIATION Year 0 1 2 3 4 5 Cost of ground -750000 Cost of building -1450000 -1450000 Cost of equipment -1500000 NWC -350000 350000 So, after-tax sale proceeds 7262566 CAPEX/NWC cash flows-----1 -2200000 -3300000 0 0 0 7612566 Sales Revenue 4000000 4000000 4000000 4000000 Rental income 500000 500000 500000 500000 Less: COGS 2300000 2300000 2300000 2300000 Property tax 55000 55000 55000 55000 55000 Equipment depn. 600000 128610 220410 157410 112410 Depn.onbldgs(0.749%;2.564%) 21721 74356 74356 74356 74356 Income before tax -676721 1942034 1850234 1913234 1958234 Tax at 38% -257153.98 737972.92 703088.92 727028.92 744128.92 Income after tax -419567.02 1204061.1 1147145.1 1186205.1 1214105.1 Add Back depn.(Equip.+Bldgs.) 621721 202966 294766 231766 186766 Annual Operating Cashflow----2 202153.98 1407027.1 1441911.1 1417971.1 1400871.1 Net annual cash flows-----1+2 -2200000 -3152846 12552027 12586911 12562971 20158437 PV F at 20% 1 0.83333 0.69444 0.57870 0.48225 0.40188 PV at 20% -2200000 -2627372 8716685 7284092 6058532 8101224 NPV 25333161 DCF ROR is the IRR on discounted cash flows= 105%

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