E-COMMERCE INTERNATIONAL has an opportunity to dispose of its existing warehouse near Paris at the very favorable price of €10 million. Taxes on the transaction would be

€2 million. After five years, the expected after-tax residual value of the existing warehouse is only €4 million.

The plan would be to replace the warehouse with a new, purpose-built one closer to the airport and rail transport. Annual expenditures after tax (including costs of handling and transportation) associated with running the existing warehouse are €5 million annually.

Expected annual cash income is €7 million after tax, which would be the same for the new warehouse.

The company expects to be able to build the new warehouse for only €8 million. New technology and better transport would save an expected €2 million per year after tax.

The after-tax residual value of the new warehouse would be approximately €8 million at the end of Year 5.

(a) Show the incremental cash flows for the new warehouse.

(b) Show the incremental cash flows for the old warehouse.

(c) If the discount rate is 10%, what is the NPV of investing in the new warehouse?

(d) What is the NPV of continuing to operate the existing warehouse?

(e) What is the NPV of the difference between the old and the new warehouses?

(f) What is the payback on investing in the new warehouse instead of continuing to operate the old one?