Capital Budgeting Exercise 1

DCFM predicts the sales volume and price of a new product production project with an expected life span of 5 years. The annual sales are 85,000, 98,000, 106,000, 114,000, and 93,000, respectively; the unit sales price is 325 Dollar.

The production of a new product requires a net working capital of US$1,500,000 at the beginning. After that, the additional net working capital investment required each year is equal to 15% of the expected increase in sales revenue for the next year. In the course of operating the project, the total fixed cost paid in cash each year was US$900,000, and the unit variable cost paid in cash was US$240.

The installation of equipment required for production requires an investment of USD 21,000,000. The equipment is a 7-year property under the modified accelerated cost recovery system (MACRS), and the annual depreciation rates are 14.29%, 24.49%, 17.49%, 12.49%, 8.93%, 8.93%, and 8.93%. , 4.45%. After 5 years, the equipment can be sold at 20% of the acquisition cost. DCFM applies a marginal tax rate of 35%; the beta of this project is 1.2, the market risk return rate is 5%, and the risk-free return rate is 4%.

Based on these basic estimates and calculations, please answer the following questions:

1. Calculate the net cash flow of the project each year, and express the final result in the form of a net cash flow statement.

2. Use the capital asset pricing model to calculate the required rate of return for the project.

3. Calculate the value and net present value of the project.

4. Use the net present value method for financial evaluation of the project.

The present value coefficient required for calculation is shown in Table 1 and Table 2.

Table 1 (Compound Interest) Present Value Coefficient Table

	1	2	3	4	5	6	7	8
6	0.9434	0.8900	0.8396	0.7921	0.7473	0.7050	0.6651	0.6274
8%	0.9259	0.8573	0.7938	0.7350	0.6806	0.6302	0.5835	0.5403
10%	0.9091	0.8264	0.7513	0.6830	0.6209	0.5645	0.5132	0.4665
12	0.8929	0.7972	0.7118	0.6355	0.5674	0.5066	0.4523	0.4039

Table 2 Annuity present value coefficient table

	1	2	3	4	5	6	7	8
6%	0.9434	1.8334	2.6730	3.4651	4.2124	4.9173	5.5824	6.2098
8%	0.9259	1.7833	2.5771	3.3121	3.9927	4.6229	5.2064	5.7466
10%	0.9091	1.7355	2.4869	3.1699	3.7908	4.3553	4.8684	5.3349
12%	0.8929	1.6901	2.4018	3.0373	3.6048	4.1114	4.5638	4.9676