A firm is planning to buy a machine at $1mn. This machine will be fully depreciated straight-line over the 5-year life of the project. The machine will generate a revenue of $2mn at the end of the first year, which is expected to increase at 3% every year for its useful life. Variable costs are expected to be 40% of sales when sales are less than $2.1mn and 55% of sales otherwise; administrative costs are expected to be $200,000 annually. The firm expects to pay tax at a 35% rate. The firm expects to finance the machine with a $1mn loan. It is able to borrow money at 7% per annum but has to pay a 2% fee to obtain the loan. Assume that the load is a bullet and repaid at the end. The fee is amortized over the life of the loan.

(a) What are the project cash flows if it is unlevered?

(b) What are the cash flows to levered equity?

(c) If the unlevered projects cost of capital is 10% per annum, what is its NPV?