Instructions: Print out the following pages. Complete the questions in the space provided (or on

separate pages, numbering the problems on each page as shown below) so that it is easier for the

grader to mark your work. Show all your work and, where relevant, circle your final answer. Do not

round intermediate calculations. Final dollar answers should be rounded to two decimal places.

Final interest rate answers should be rounded to 4 decimal places as a percent. State any

assumptions that you make in solving this problem.

James Weber Corp. (JWC), a prominent manufacturer with many production facilities across the

country, has been considering opening another manufacturing plant. A recently completed

feasibility study costing $2,000,000 concluded that, in order for JWC to maintain its market share,

expansion should be seriously considered.

JWC is considering Humacao as the site of the expansion project citing the availability of industrial

parks as a major reason. If the expansion project proceeds, JWC believes it can purchase land,

building, and the required machinery for $120,000,000. The cost of the building is expected to be

$75,000,000, while that of the machinery will be $5,000,000. The building will be depreciated

using using the 20-year depreciation schedule for which the rates of depreciation for first 5 years

are: 3.750%, 7.219%, 6.677%, 6.177%, and 5.713% (as found in IRS Publication 946). The

machinery will be depreciated using the 7-year schedule found on the MACRS table (distributed in

class). The land is not considered amortizable and, as such, will not be depreciated. Because of

changing market conditions, JWC believes that the competitive advantage associated with the

expansion will last only 5 years and after 5 years is prepared to close the new facility and pursue

other opportunities. At the end of the five years JWC intends to sell the land for an amount equal to

its purchase price, to sell the building for $60,000,000, and write-off the equipment for no value.

Incremental pre-tax revenues associated with the expansion project are estimated to be $35,000,000

for the first year of the project and are expected to rise at 5% per year for the remainder of the

project. Incremental pre-tax expenses associated with the expansion project are estimated to be

$10,000,000 for the first year of the project but are expected to decline at 4% per year for the

remainder of the project. (Assume the cash flows associated with these incremental revenues and

expenses will occur at the end of each year.)

JWCs working capital will most certainly rise if the project proceeds. An estimate proposes that

the project-related additional working capital requirements by year will need to be the following:

Year 0 Year 1 Year 2 Year 3 Year 4 Year 5

$4,000,000 $5,000,000 $6,000,000 $3,000,000 $1,000,000 $0

An unfortunate choice associated with Humacao is the relatively high cost of labour. JWC believes

that this will result in increased labour costs at its other manufacturing plants across the country.

JWC intends to phase in these increased costs over a 2-year period, and estimates that it will have to

add $2,000,000 in payroll costs in the first year of the project and add an additional $2,000,000 (i.e.,

a total of $4,000,000 above pre-project levels) in the second year of the project. In further expects

that the increased payroll costs at its other plants will th

en continue indefinitely. (Assume the cash flows associated with these additional payroll costs willoccur at the end of each year.)

JWCs income tax rate is 40%, and it has decided that an appropriate discount rate for this type of

project is 14%. Do an NPV analysis to determine if JWC should proceed with its expansion plans.

(Assume that all cash flows and the costs of capital (the discount rate) are given in nominal terms.)

Worksheet & Supporting Calculations:

a) What is the impact on the NPV of the project of the $2,000,000 feasibility study? (1 mark)

b) What is the impact on the NPV of the project of the investment in land, building and new

equipment? (Ignore the effect of any possible tax shields and salvage) (1 mark)

c) What is the impact on the NPV of the project of the net working capital requirements associated

with the project? (3 marks)

d) What is the impact on the NPV of the project of the tax shields associated with the use of the

assets in the project? (3 marks)

e) What is the impact on the NPV of the project of the salvage of the assets at the end of year five?

(Ignore the effect of any lost tax shields.) (2 marks)

f) What is the impact on the NPV of the project of the incremental revenues associated with the

project? (3 marks)

g) What is the impact on the NPV of the project of the incremental expenses associated with the

project (excluding the increased payroll costs at JWCs other plants)? (3 marks)

h) What is the impact on the NPV of the project of the increased payroll costs at JWCs other

plants? (3 marks)

i) What is the NPV of the project & what is your recommendation? (1 mark)