Question
For a new project of a company to increase the manufacturing capacity for five years, it will purchase new equipment for $1,500,000 and be housed
For a new project of a company to increase the manufacturing capacity for five years, it will purchase new equipment for $1,500,000 and be housed in a building purchased eight years ago for $4,200,000. The building will be retooled for the new project at a cost of $500,000, including building permit fees of $25,000.
The purchased equipment will be depreciated using Modified Accelerated Cost Recovery System (MACRS) depreciation schedule, and sold for $250,000 in year 5.
The projected revenue for year 1 is $550,000. Subsequent year's revenues will increase by eight percent of the preceding year's revenues. This expansion project will result in anannualloss of revenues from an existing manufacturing operation of $100,000. Operating expenses (excluding depreciation and amortization) is estimated at 20 percent of net revenues.
Operating net working capital will rise by $250,000 and $300,000 in years 1 and 2, respectively. This investment in net working capital reverses in the final year of the project. Annual interest expense is $35,000.
Risk-Free Rate (10-Year U.S. Treasury) = 3%
The Equity Risk Premium = 4.5%
Tax Rate: 40%
Beta () = 1.2
Automaton's Market Value of Equity / Total Capital ratio = 100%
Automaton's Market Value of Debt / Total Capital = 0%
MACRS 5 Schedule
Year 1: 20%
Year 2: 32%
Year 3: 19.2%
Year 4: 11.52%
Year 5: 11.52%
The company is concerned that the estimated cost of capital is too high. The Beta is adjusted to compute a new cost of capital of 5%. Using this, what is the project's NPV and IRR?
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