Cochrane, Inc., is considering a new three-year expansion project that requires
ID: 2900720 • Letter: C
Question
Cochrane, Inc., is considering a new three-year expansion project that requires an initial fixed asset investment of $2,640,000. 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 $2,330,000 in annual sales, with costs of $1,320,000. The project requires an initial investment in net working capital of $168,000, and the fixed asset will have a market value of $193,000 at the end of the project. Assume that the tax rate is 35 percent and the required return on the project is 6 percent.
What are the net cash flows of the project for the following years? (Do not round intermediate calculations. A negative amount 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).)
What are the net cash flows of the project for the following years? (Do not round intermediate calculations. A negative amount should be indicated by a minus sign. Enter your answers in dollars, not millions of dollars (e.g., 1,234,567).)
Explanation / Answer
Hi,
Please find the answer as follows:
Part A: Annual Cash Flows:
Year 0 = - 2640000-168000 = -2808000
Year 1 = (Sales - Cost - Depreciation)*(1-Tax Rate) + Depreciation = (2330000 - 1320000 - 2640000/3)*(1-.35) + 2640000/3 = 964500
Year 2 = (Sales - Cost - Depreciation)*(1-Tax Rate) + Depreciation = (2330000 - 1320000 - 2640000/3)*(1-.35) + 2640000/3 = 964500
Year 3 = (Sales - Cost - Depreciation)*(1-Tax Rate) + Depreciation + Recovery of Working Capital + Market Value*(1-Tax Rate) = (2330000 - 1320000 - 2640000/3)*(1-.35) + 2640000/3 + 168000 + 193000*(1-.35) = 1257950
Part B: NPV:
NPV = -2808000 + 964500/(1+.06)^1 + 964500/(1+.06)^2 + 1257950/(1+.06)^3 = 16506.30
Thanks.