Max Toys is proposing a new toy that they hope will be a success in the competitive baby toy market. The project requires an initial investment in equipment of 500,000. This investment will be depreciated straight-line over four years to a value of zero. Production costs are estimated at 5 per baby toy and the toys will be sold for 14 each. Sales are expected to be 20,000 units in the first year and to rise by 20% a year in each of the subsequent three years (i.e., years 2, 3, 4). The firm will need working capital for the project. To estimate working capital requirements, they estimate that current asset needs in a year will be 15% of the forecasted sales and current liabilities will be 5% of the forecasted sales.

The firm pays 40% tax and the required return on the project is 10%.

a) Calculate annual net working capital requirements and calculate the annual change in net working capital requirements.

b) Calculate free cash flows for the project while showing calculations of the following heads: Sales, CGS, Gross profit, opportunity cost (if any), depreciation, EBIT, net income, capital expenditure, and net working capital.

c) CalculateNPVoftheproject

d) Calculate IRR of the project

e) Decision: Should we invest in the project based on NPV as well as IRR?