MapleWood Ltd., a pulp and paper company, has recently appointed a new CEO, Sarah Robbins. As her first initiative, Sarah proposed a major capital expenditure program for MapleWood to the board of directors: that MapleWood replace its production equipment with new and much more efficient equipment.

While the cost of the new equipment at $1.5 billion is significant, she argues that the new equipment will not only be more energy efficient using 25% less power; it will also use the raw materials more efficiently with almost 40% less waste. She also suggests that by becoming more environmentally friendly in its production processes, MapleWood will attract new customers who are interested in improved sustainability practices and, as a result, sales are likely to grow by 5% from their current level of $7.2 billion to 7.56 billion.

The increased efficiency of the new production equipment means that the cost of goods sold (COGS) is expected to fall from its current level of 60% of sales to 57.5% of sales. These savings are a direct result of the reduction in energy consumption and in the amount of waste being generated by the production process. These changes result in a need to increase net working capital by $25,000,000. The company's current tax rate is 28%.

The total cost of the new equipment will be $1.5 billion, of which $1.475 billion is the capital outlay and $25 million is the cost of installation. The new equipment has an estimated useful life of 15 years, at the end of which its estimated salvage value is $50 million. At the end of the five-year planning horizon the equipment is expected to be worth $700 million. If replaced, the existing equipment can be sold for $275 million today. This equipment has a remaining life of approximately five years, at the end of which it is expected to have zero salvage value.

The equipment is in an asset class with a CCA rate of 10% and qualifies for the Accelerated Investment Incentive for 1.5 times the CCA in the year of acquisition. On disposal, there will be a positive balance remaining in the CCA class.

Because MapleWood is changing its strategy toward more sustainable production, for the time frame of the project, this will be a riskier project than the firm on average and the appropriate discount rate for this project is 8.5%.

Required

a) Calculate the payback period for the project

b) Calculate the net present value