Question
Consider a project to supply Detroit with 35,000 tons of machine screws annually for automobile production. You will need an initial $2,900,000 investment in threading
Consider a project to supply Detroit with 35,000 tons of machine screws annually for automobile production. You will need an initial $2,900,000 investment in threading equipment to get the project started; the project will last for five years. The accounting department estimates that annual fixed costs will be $495,000 and that variable costs should be $285 per ton; accounting will depreciate the initial fixed asset investment straight-line to zero over the five-year project life. It also estimates a salvage value of $300,000 after dismantling costs. The marketing department estimates that the automakers will get the contract at a price of $345 per ton. The engineering department estimates you will need an initial net working capital investment of $450,000. You require a 13 percent return and face a marginal tax rate of 38 percent on this project.
*In Excel*
a. What is the estimated operating cash flow for this project?(20 points)
b. What is the NPV? Is the project acceptable?(20 points)
c. Suppose you believe that the accounting departments initial cost and salvage value projections are accurate only to within +/-15 percent; and the engineering departments net working capital estimate is accurate only to within +/- 5 percent. What is your worst case scenario for this project? Your best-case scenario? Do you still want to pursuit this project?(30 points)
d. Suppose you are confident with your own projections, but you are a little unsure about Detroits actual machine screw requirements. What is the sensitivity of the project OCF to changes in the quantity supplied? What about the sensitivity of NPV to changes in quantity supplied? Given the sensitivity number you calculated, is there some minimum level of output below which you wouldnt want to operate? Why?(30 points)
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