CASE 3 (25 points)

You have been hired as a consultant for Medicals Inc., manufacturer of medical devices. The company projects unit sales for a new dental implant as follows:

YearUnit Sales

1 73,000

286,000

397,000

468,000

Additional information:

Production of the implants will require 1,500,000 in net working capital immediately, all of which will be recovered at the end of the project.

Total fixed costs are 4,200,000 per year, variable production costs are 255 per unit, and the units are priced at 375 each.

The equipment needed to begin production has an installed cost of 8,500,000. This equipment qualifies as three-year MACRS property (depreciation rates are 33.33% for Year 1, 44.45% for Year 2, 14.81% for Year 3, and 7.41% for Year 4).

In four years, this equipment can be sold for about 20 percent of its acquisition cost.

The tax rate is 21 percent and the required return is 24 percent.

Instructions:

1. Complete the pro forma below and determine total cash flows for each year of project's life. (20 points)

2. Would you recommend to accept or reject the project? Explain your decision. (5 points)

Year

0

1

2

3

4

Sales revenues

Variable costs

Fixed costs

Depreciation

EBIT

Taxes

Net income

Operating Cash Flow

Capital spending

Net Working Capital

After-tax salvage value

Total Cash Flow