Question

McFann Co. is considering an investment that will have the following sales, variable costs, and fixed operating costs:

Year 1 Year 2 Year 3 Year 4
Unit sales 5,500 5,200 5,700 5,820
Sales price $42.57 $43.55 $44.76 $46.79
Variable cost per unit $22.83 $22.97 $23.45 $23.87
Fixed operating costs except depreciation $66,750 $68,950 $69,690 $68,900
Accelerated depreciation rate 33% 45% 15% 7%

This project will require an investment of $10,000 in new equipment. The equipment will have no salvage value at the end of the project's four-year life. McFann pays a constant tax rate of 40%, and it has a weighted average cost of capital (WACC) of 11%. Determine what the project's net present value (NPV) would be when using accelerated depreciation.

a. $82,622
b. $74,360
c. $66,098
d. $95,015

Answer 1

Answer:

A) $82,622

Explanation:

first we must determine the net cash flows for years 1-4:

net cash flows = [(total revenue - total costs) x (1 - tax rate)] + depreciation expense

1. CF1 = [($234,135 - $125,565 - $66,750 - $3,300) x (1 - 40%)] + $3,300 = $26,412
2. CF2 = [($226,460 - $119,444 - $68,950 - $4,500) x (1 - 40%)] + $4,500 = $24,640
3. CF3 = [($255,132 - $133,665 - $69,690 - $1,500) x (1 - 40%)] + $1,500 = $31,666
4. CF4 = [($272,318 - $138,923 - $68,900 - $700) x (1 - 40%)] + $700 = $38,977

now we can calculate the project's NPV:

NPV = -10,000 + 26,412/1.11 + 24,640/1.11² + 31,666/1.11³ + 38,977/1.11⁴ = -10,000 + 23,795 + 19,998 + 23,154 + 25,675 = $82,622

Answer 2

Answer:

A) $82,622

Explanation:

The project's net present value (NPV) would be when using accelerated depreciation :

• The net cash flows for years 1-4 :

Net Cash Flows = [(total revenue - total costs) x (1 - tax rate)] + depreciation expense

• Net Cash Flows 1 = [($234,135 - $125,565 - $66,750 - $3,300) x (1 - 40%)] + $3,300

• Net Cash Flows 1 = $26,412

• Net Cash Flows 2 = [($226,460 - $119,444 - $68,950 - $4,500) x (1 - 40%)] + $4,500

• Net Cash Flows 2 = $24,640

• Net Cash Flows 3 = [($255,132 - $133,665 - $69,690 - $1,500) x (1 - 40%)] + $1,500

• Net Cash Flows 3 = $31,666

• Net Cash Flows  4 = [($272,318 - $138,923 - $68,900 - $700) x (1 - 40%)] + $700

• Net Cash Flows 4 = $38,977

The project's NPV :

NPV =Net Cash Flows ( 1+ 2²+ 3³+4⁴ )

• NPV= ( -10,000) + 26,412/1.11 + 24,640/1.11² + 31,666/1.11³ + 38,977/1.11⁴
• NPV = (-10,000) + 23,795 + 19,998 + 23,154 + 25,675
• NPV= $82,622

Thus ,the correct Net Present value is $82,622.

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