Wholesome Foods Inc. (WFI), projects unit sales for its new Organic Trail Mix, as follows: Year...
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Wholesome Foods Inc. (WFI), projects unit sales for its new Organic Trail Mix, as follows: Year Unit Sales 70,000 100,000 3 110,000 4 100,000 65,000 Production of the trail mix will require $5 million in net working capital to start and additional net operating working capital investments each year equal to 30 percent of the projected sales increase (in S's) for the following year. (Because sales are expected to fall in the fifth year of sales, there is no additional investment in NOWC for that year). Total fixed costs are $1,000,000 per year, variable production costs are $235 per unit, and the units are priced at $350 each. The equipment needed to begin production is $15 million. The manufacturing equipment needed to make the Trail Mix falls into class 8 for tax purposes (20 percent). Assume at the end of year 5 this equipment can be sold for its scrap value of $1 million. WFI feels its optimal capital structure is 35% debt, 55% common equity, and 10% preferred shares. According to its calculations WFI is expecting the required return on debt (before tax) to be 10%, on preferred shares 16% and on common equity 22%. Since, the company has a significant amount of capital in retained earnings they will not allocate any flotation costs to this project. WFI is in the 30 percent marginal tax bracket and this project is considered to be of average risk compared to previous investments. Note: Utilize the formula for calculating the PV of the CCA tax shield rather than the year by year calculations as it is more accurate. 3. Based on this analysis what would be your recommendation to DBP? Discuss any other factors or variables discussed in this course which could affect this decision. Could these additional factors be incorporated into the analysis? Explain. Mark Allocations Component Mark WACC 3 Initial Investment 2 Grant and Salvage Value 2 Cash flows from Sales 11 CCA Tax Shield 6 Net Working Capital 6 NPV 3 IRR 2 PI 2 Payback Period 3 Recommendation & Discussion 5 Presentation 5 Total 50 Note: Show all calculations for full marks Wholesome Foods Inc. (WFI), projects unit sales for its new Organic Trail Mix, as follows: Year Unit Sales 70,000 100,000 3 110,000 4 100,000 65,000 Production of the trail mix will require $5 million in net working capital to start and additional net operating working capital investments each year equal to 30 percent of the projected sales increase (in S's) for the following year. (Because sales are expected to fall in the fifth year of sales, there is no additional investment in NOWC for that year). Total fixed costs are $1,000,000 per year, variable production costs are $235 per unit, and the units are priced at $350 each. The equipment needed to begin production is $15 million. The manufacturing equipment needed to make the Trail Mix falls into class 8 for tax purposes (20 percent). Assume at the end of year 5 this equipment can be sold for its scrap value of $1 million. WFI feels its optimal capital structure is 35% debt, 55% common equity, and 10% preferred shares. According to its calculations WFI is expecting the required return on debt (before tax) to be 10%, on preferred shares 16% and on common equity 22%. Since, the company has a significant amount of capital in retained earnings they will not allocate any flotation costs to this project. WFI is in the 30 percent marginal tax bracket and this project is considered to be of average risk compared to previous investments. Note: Utilize the formula for calculating the PV of the CCA tax shield rather than the year by year calculations as it is more accurate. 3. Based on this analysis what would be your recommendation to DBP? Discuss any other factors or variables discussed in this course which could affect this decision. Could these additional factors be incorporated into the analysis? Explain. Mark Allocations Component Mark WACC 3 Initial Investment 2 Grant and Salvage Value 2 Cash flows from Sales 11 CCA Tax Shield 6 Net Working Capital 6 NPV 3 IRR 2 PI 2 Payback Period 3 Recommendation & Discussion 5 Presentation 5 Total 50 Note: Show all calculations for full marks
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Answer rating: 100% (QA)
To calculate the net present value NPV of the project we need to calculate the cash flows for each year including the tax shield from capital cost allowance CCA and discount them to their present valu... View the full answer
Related Book For
Corporate Finance Core Principles and Applications
ISBN: 978-0077905200
3rd edition
Authors: Stephen Ross, Randolph Westerfield, Jeffrey Jaffe, Bradford
Posted Date:
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