Octopus Garden, Inc., manufactures innovative, trendy toys and gifts. Successful gifts provide a very high rate of return, averaging 16 percent, and the company’s development department has a very good success rate. Marketing research indicates that the latest new toy can be sold for three years but not after that. To meet expected demand for the new toy, Octopus Garden needs to buy additional equipment and obtain 25,000 square feet of space. The company has 12,500 square feet of unused space, which it controls under a lease with three more years at $3 per square foot per year. Octopus Garden can rent an additional 12,500 square feet for three years at $4 per square foot per year. The equipment will be purchased for $950,000, depreciated at $300,000 per year, and salvaged for $50,000. Sales, general, and administrative (SG&A) costs are allocated to all products, although these costs are not traced to specific products. Octopus Garden analysts have made the following income forecasts:

End of Year | Year 2 Year 3 Sales $ 900,000 $1,400,000 $ 600,000 Unit, batch & product costs 750,000 400,000 350,000 SG&A (allocated) 40,000 75,000 35,000 Rent of existing space 37,500 37,500 37,500 Rent of new space 50,000 50,000 50,000 Depreciation 300,000 300,000 300,000 Income before tax $(277,500) $ 537,500 (172,500)

Tax (savings) @ 35% (97,125) 188,125 (60,375)

Income after tax $(180,375) $ 349,375 $(112, 125)

Required

a. Compute after-tax net cash flows for this investment.

b. Compute the net present value of this investment. Is this a desirable project? Explain why or why not.