Alvin Hospital, a taxpaying entity, is considering a new pediatrics emergency room (ER). The building and equipment for the new pediatric ER will cost $10 million. The equipment and building will be depreciated on a straight-line basis over the project’s five-year life to a $1 million salvage value. The pediatric ER projected net revenue and expenses are as follows. Net revenues are expected to be $4 million the first year and will grow by 12 percent each year thereafter.

The operating expenses, which exclude interest and depreciation expenses, will be $2 million the first year and are expected to grow annually by 3 percent for every year after that. Interest expense will be $1 million per year, while principal payments on the loan will be $2.7 million a year. The new pediatric ER is expected to generate additional after tax cash flows of $0.5 million from radiology and other ancillary services, which will grow at an annual rate of 5 percent per year for every year after that. Starting in year 1, net working capital will increase by $1.5 million per year for the first four years, but during the last year of the project, net working capital will decrease by $1.5 million. The tax rate for the hospital is 40 percent and its cost of capital is 15 percent. Use the Net Present Value and IRR approach to determine if this project should be undertaken.

(Hint, see Appendix C and E.)