Blue Manufacturing Co. is planning to purchase a new machine. The machine costs $1.8M and has a useful life of 10 years. The firm uses straight line depreciation to depreciate all assets. The firm projects revenues from the machine to be $6.2M per year and to increase slightly faster than inflation, at 5% per year. Manufacturing costs are 90% of revenue. If the machine were not purchased, Red Manufacturing Co could lease out the vacant factory space at a rental cost of $200K per year. Red Manufacturing Co projects that they can increase the rental fee by 4% each year due to inflation. The firm suspects they will need to end production in year 8, thus putting the now-used equipment up for sale and expect to be able to sell the equipment for $600K at the end of that year. Additionally, the firm anticipates they will need to build inventory levels ahead of production, and so will need initial working capital the initial WC need is $450K, and they expect that working capital annual needs are 10% of annual revenue . The tax rate of the firm is 25% and the firms required rate of return is 12%.

What is the NPV of this project, and should the firm proceed or abandon the machinery expansion ? What is the IRR of this project?

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