Scenario Analysis [LO2] Consider a project to supply Detroit with 25,000 tons of machine screws annually for
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- Scenario Analysis [LO2] Consider a project to supply Detroit with 25,000 tons of machine screws annually for automobile production. You will need an initial $3,600,000 investment in threading equipment to get the project started; the project will last for five years. The accounting department estimates that annual fixed costs will be $850,000 and that variable costs should be $185 per ton; accounting will depreciate the initial fixed asset investment straight-line to zero over the five-year project life. It also estimates a salvage value of $500,000 after dismantling costs. The marketing department estimates that the automakers will let the contract at a selling price of $280 per ton. The engineering department estimates you will need an initial net working capital investment of $360,000. You require a 13 percent re- turn and face a marginal tax rate of 38 percent on this project.
- What is the estimated OCF for this project? The NPV? Should you pursue this project?
- Suppose you believe that the accounting department's initial cost and salvage value projections are accurate only to within 15 percent; the marketing depart- ment's price estimate is accurate only to within 10 percent; and the engineering department's net working capital estimate is accurate only to within 5 percent. What is your worst-case scenario for this project? Your best-case scenario? Do you still want to pursue the project?
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