As a financial analyst, you must evaluate one of your companys proposed projects to produce

widgets. The necessary equipment would cost $55,000 plus $10,000 for installation. Annual sales

of widgets are expected to be 4,000 units at a price of $50 each. The projects life is 3 years. As a

result of the project, current assets would increase by $5,000 and payables would increase by

$3,000. At the end of the 3 years, the equipment purchased could be sold for $10,000.

Depreciation would be based on the MACRS 3-year class so the applicable rates would be 33.33%,

44.44%, 14.82% and 7.41%. Variable costs are estimated to be 70% of sales revenue, fixed costs

excluding depreciation would be $30,000 per year, the marginal tax rate is 40% and the

corporations cost of capital is 11%.

a.

Calculate the initial capital outlay, operating cash flows, and terminal cash flow for this project.

b.

Should the project be accepted?

c.

Suppose management is uncertain about the exact unit sales. What would be the projects

NPV if unit sales turned out to be 20% below forecast but other inputs were as forecasted?

Would this change the decision?

d.

The CFO asks you to do a scenario analysis using these inputs:

Scenario	Probability	Unit Sales	Variable Cost %
Best Case	25%	4,800	65%
Base Case	50%	4,000	70%
Worst Case	25%	3,200	75%

Calculate the expected NPV, standard deviation and coefficient of variation.

e.

The firms projects CVs generally range from 1.0 to 1.5. A 3% risk premium is added to the

wacc if the intial CV exceeds 1.5, and the wacc is reduced by 0.5% if the CV is 0.75 or less.

What should be the wacc for this project? What are the revised values for expected NPV,

standard deviation and CV? Would you recommend that the project be accepted? Explain.