Universal Farm Supply's management has observed that it can sell as much fertilizer as it can stock and is considering the possibility of purchasing a forklift and expanding its warehouse space in order to be able to handle and stock more fertilizer (both are necessary to expand sales). The forklift costs $42,000 and would be depreciated to a salvage value of zero in 7 years, even though it is expected to last for 10 years. The warehouse expansion would cost $100,000 and would be depreciated to a salvage value of $60,000 in 10 years. The expansion would allow Universal to sell 1,000,000 more pounds per year at $0.20 per pound (the fertilizer actually costs Universal $0.17 per pound to manufacture). Universal's marginal tax rate is 25% and its required rate of return is 12%. Assume the firm uses straightline depreciation. 4 5 6 7 Forklift Warehouse $ 42,000.00 $ 100,000.00 $ S 60,000.00 7 10 00 9 Cost Salvage Value Life Depreciation Sales Increase Price Per Pound Cost Per Pound Profits Tax Rate Required Return $ $ 10 11 12 13 14 15 16 12 18 1,000,000 0.20 0.17 25% 12% Year 0 One Time CF Profits Depreciation Taxes After Tax CF PV Hint: 7 1 19 20 21 22 23 24 25 26 2 3 4 5 6 7 Instructions Your Info 01 Q2 Q3 A - What is the initial cash outlay associated with the expansion? Initial Outlay B - What is the net present value of of the expansion? Should Universal expand? NPV Expand? Hint: Use an IF statement here C - If Universal's required rate of return increased to 20% what would the NPV be? Shoule their required return increases to 20%? NPV Expand? Hint: Use an IF statement here D - What is the internal rate of return of the expansion? IRR Universal Farm Supply's management has observed that it can sell as much fertilizer as it can stock and is considering the possibility of purchasing a forklift and expanding its warehouse space in order to be able to handle and stock more fertilizer (both are necessary to expand sales). The forklift costs $42,000 and would be depreciated to a salvage value of zero in 7 years, even though it is expected to last for 10 years. The warehouse expansion would cost $100,000 and would be depreciated to a salvage value of $60,000 in 10 years. The expansion would allow Universal to sell 1,000,000 more pounds per year at $0.20 per pound (the fertilizer actually costs Universal $0.17 per pound to manufacture). Universal's marginal tax rate is 25% and its required rate of return is 12%. Assume the firm uses straightline depreciation. 4 5 6 7 Forklift Warehouse $ 42,000.00 $ 100,000.00 $ S 60,000.00 7 10 00 9 Cost Salvage Value Life Depreciation Sales Increase Price Per Pound Cost Per Pound Profits Tax Rate Required Return $ $ 10 11 12 13 14 15 16 12 18 1,000,000 0.20 0.17 25% 12% Year 0 One Time CF Profits Depreciation Taxes After Tax CF PV Hint: 7 1 19 20 21 22 23 24 25 26 2 3 4 5 6 7 Instructions Your Info 01 Q2 Q3 A - What is the initial cash outlay associated with the expansion? Initial Outlay B - What is the net present value of of the expansion? Should Universal expand? NPV Expand? Hint: Use an IF statement here C - If Universal's required rate of return increased to 20% what would the NPV be? Shoule their required return increases to 20%? NPV Expand? Hint: Use an IF statement here D - What is the internal rate of return of the expansion? IRR
