Please complete the capital budgeting analysis for this project. You should develop the incremental cash flows: Initial investment cashflow at t=0, Operating cashflows through the life of the project, Terminal cash flows You should evaluate the project using: Net Present Value, Internal Rate of Return, Modified Internal Rate of Return Present your decision whether the project should be accepted or rejected, and justify

2. Project analysis: Colurost, Inc. manufactures parts for the classic auto restoration industry. The company is evaluating a proposal by its R&D department to develop one-of-a-kind, customize parts for resto-mod professionals and the hobbyist in their desire for that special, unique "new" old car/truck. This approach will require the expertise of design artists and engineers working with the restorer and the need for custom programs, computer aided design, CNC milling equipment and metal 3D printing equipment Market studies indicate that the restoration market is continuing to grow and it broadening to include the newer 'classic' vehicles of the '80s and '90s. The industry includes both professional restoration shops and many talented hobbyists. The anticipated demand is incorporated in the forecasts below. o 0 o o Sales Forecast: The estimates of sales revenues for this project are: Year 1: 950,000 Year 2: 2,185,000 Year 3: 3,277,500 Sales are expected to continue to grow in years 4, and 5 by 10% per year. Sales in years 6 and 7 will be flat (equal to year 5). Sales are then expected to decline by 10% per year in years 8 and 9. Production cost forecasts are: Fixed costs: $377,000 per year (a large portion of this cost is labor for the designer and engineer). Annual variable costs: 49% of revenue. The company will have to purchase new equipment, mentioned above, to produce the new product. The equipment, including shipping and installation is expected to cost (t=0) $ 7,575,000. The equipment falls into the IRS 7-year class life using the MACRS depreciation method with the 12 year convention. You may use the IRS - MACRS depreciation table below. If the company goes ahead with the proposed product, it will have an effect on the company's net operating working capital. At the outset, t = 0, inventory will increase by $365,000. Accounts payable will increase by $255,000 and accounts receivable will increase by $110,000. The net operating working capital will be liquidated after the project is completed. The program (project) is planned to continue for 9 years. At the end of the project the equipment will be salvaged (sold). The forecasts predict that the equipment can be sold then for $195,000. The company has a marginal (federal + state) tax rate (T) of 34%. MACRS (half-year convention) Depreciation (% of depreciable basis) Class - life Year of Operation 1 2 3 4 3-Year 33.33% 44.45% 14.81% 7.41% 5-Year 20.00% 32.00% 19.20% 11.52% 11.52% 5.76% 5 10- 7-Year Year 14.29% 10.00% 24.49% 18.00% 17.49% 14.40% 12.49% 11.52% 8.93% 9.22% 8.92% 7.37% 8.93% 6.55% 4.46% 6.55% 6.56% 6.55% 3.28% 6 7 8 9 10 Your analysts compiled current market information: Market risk premium (rm -rrt): 4.00% Risk-free rate (rit): 1.03% o 0 The company's beta (at its current capital structure) is: 1.55 . Current Capital Structure Colurost has the following levels of debt and common equity (market values): Debt: $2,595,000 o Equity: $6,056.000 Total Capital: $8,651,000 o Colurost, Inc. uses the firm's WACC for average risk projects, it adds 2% for high risk projects. For low risk projects it uses the WACC less 2%. Management utilizes risk adjusted hurdle rates for evaluating capital budgeting projects. All potential projects are classified using a five level classification system: Risk Level A B D E Class Low risk Below average risk Normal risk Above average risk High risk Hurdle Rate WACC -2 WACC -1 Equal to the WACC WACC + 1 WACC + 2 Colurost, Inc. considers this to be a high-risk project. . After discussions with an investment banker about issuing additional debt, your analyst found that the cost of debt (before tax) depends on the amount of debt in the capital structure. Cost of debt estimates for various levels of debt financing (D/E) were obtained and the firm's analysts have partially prepared information for the company's cost of capital at various levels of debt and equity: D/E 0 0.43 DIA (Wa) 0.000 0.300 0.400 Capital Structure Worksheet EIA ra ra(1-T) 0.00% 0.00% 1.21 1.000 3.25% 2.15% 1.55 0.700 3.875% 2.56% 4.75% 3.14% 2.01 5.863% re 5.86% 7.23% 7.99% 5.817% 6.094% 1.00 o Where: ra = before tax cost of debt, o ra(1-T) = after tax cost of debt, b = beta, o rs = cost of common equity, o Wa = Weight of debt, o Wce = Weight of common equity, O 2. Project analysis: Colurost, Inc. manufactures parts for the classic auto restoration industry. The company is evaluating a proposal by its R&D department to develop one-of-a-kind, customize parts for resto-mod professionals and the hobbyist in their desire for that special, unique "new" old car/truck. This approach will require the expertise of design artists and engineers working with the restorer and the need for custom programs, computer aided design, CNC milling equipment and metal 3D printing equipment Market studies indicate that the restoration market is continuing to grow and it broadening to include the newer 'classic' vehicles of the '80s and '90s. The industry includes both professional restoration shops and many talented hobbyists. The anticipated demand is incorporated in the forecasts below. o 0 o o Sales Forecast: The estimates of sales revenues for this project are: Year 1: 950,000 Year 2: 2,185,000 Year 3: 3,277,500 Sales are expected to continue to grow in years 4, and 5 by 10% per year. Sales in years 6 and 7 will be flat (equal to year 5). Sales are then expected to decline by 10% per year in years 8 and 9. Production cost forecasts are: Fixed costs: $377,000 per year (a large portion of this cost is labor for the designer and engineer). Annual variable costs: 49% of revenue. The company will have to purchase new equipment, mentioned above, to produce the new product. The equipment, including shipping and installation is expected to cost (t=0) $ 7,575,000. The equipment falls into the IRS 7-year class life using the MACRS depreciation method with the 12 year convention. You may use the IRS - MACRS depreciation table below. If the company goes ahead with the proposed product, it will have an effect on the company's net operating working capital. At the outset, t = 0, inventory will increase by $365,000. Accounts payable will increase by $255,000 and accounts receivable will increase by $110,000. The net operating working capital will be liquidated after the project is completed. The program (project) is planned to continue for 9 years. At the end of the project the equipment will be salvaged (sold). The forecasts predict that the equipment can be sold then for $195,000. The company has a marginal (federal + state) tax rate (T) of 34%. MACRS (half-year convention) Depreciation (% of depreciable basis) Class - life Year of Operation 1 2 3 4 3-Year 33.33% 44.45% 14.81% 7.41% 5-Year 20.00% 32.00% 19.20% 11.52% 11.52% 5.76% 5 10- 7-Year Year 14.29% 10.00% 24.49% 18.00% 17.49% 14.40% 12.49% 11.52% 8.93% 9.22% 8.92% 7.37% 8.93% 6.55% 4.46% 6.55% 6.56% 6.55% 3.28% 6 7 8 9 10 Your analysts compiled current market information: Market risk premium (rm -rrt): 4.00% Risk-free rate (rit): 1.03% o 0 The company's beta (at its current capital structure) is: 1.55 . Current Capital Structure Colurost has the following levels of debt and common equity (market values): Debt: $2,595,000 o Equity: $6,056.000 Total Capital: $8,651,000 o Colurost, Inc. uses the firm's WACC for average risk projects, it adds 2% for high risk projects. For low risk projects it uses the WACC less 2%. Management utilizes risk adjusted hurdle rates for evaluating capital budgeting projects. All potential projects are classified using a five level classification system: Risk Level A B D E Class Low risk Below average risk Normal risk Above average risk High risk Hurdle Rate WACC -2 WACC -1 Equal to the WACC WACC + 1 WACC + 2 Colurost, Inc. considers this to be a high-risk project. . After discussions with an investment banker about issuing additional debt, your analyst found that the cost of debt (before tax) depends on the amount of debt in the capital structure. Cost of debt estimates for various levels of debt financing (D/E) were obtained and the firm's analysts have partially prepared information for the company's cost of capital at various levels of debt and equity: D/E 0 0.43 DIA (Wa) 0.000 0.300 0.400 Capital Structure Worksheet EIA ra ra(1-T) 0.00% 0.00% 1.21 1.000 3.25% 2.15% 1.55 0.700 3.875% 2.56% 4.75% 3.14% 2.01 5.863% re 5.86% 7.23% 7.99% 5.817% 6.094% 1.00 o Where: ra = before tax cost of debt, o ra(1-T) = after tax cost of debt, b = beta, o rs = cost of common equity, o Wa = Weight of debt, o Wce = Weight of common equity, O