Capital budgeting decision on new branch

Initial cost of building and equipment is $1 million

Expected to have a useful life of 20 years

At the end of the project the building and its equipment are expected to be sold for a $200,000 salvage value

The building and its equipment will be depreciated over their 20-year life using straight-line depreciation to a zero balance

The building is to be constructed on land leased for $22,000 per year

Net working capital must be increased by $100,000

Annual revenues from the new branch will be $400,000

Of this $400,000 in revenues, $50,000 will be drawn away from the banks main office

The new branch will incur about $130,000 per year in other expenses

Both expenses and revenues are expected to remain approximately constant over the branchs 20-year life

Marginal tax rate is 40%

Cost of capital 9%

Answer the following questions:

What is the cash flow for the branchs 20-year life

Calculate the NPV, Profitability index, and Internal rate of return (IRR).

Should the project be accepted? Why?

discount rate

??

net investment

year

cash flow

Net investment

??

0

??

Plus: chg in nwc

??

1

??

net Investment

??

2

??

3

??

salvage value

??

4

??

depr

??

5

??

6

??

Net cash flow

7

??

revenue

??

8

??

less: draw by bank

??

9

??

less:lease

??

10

??

less: oper cost

??

11

??

less: depr

??

12

??

earning before tax

??

13

??

less tax

??

14

??

earning after tax

??

15

??

plus: depr

??

16

??

net cash flow

??

17

??

18

??

project cash flow

19

??

net investment

??

20

??

net cash flow

??

year 1-19

??

NPV

??

year 20

cash flow

??

profitability index

??

from salvage sale

??

from net working capital

??

IRR

??

less: tax of salvage

??

total

??

yes / no

??