You are a manager at NorthernFibre, which is considering expanding its operations in synthetic fibre manufacturing. Your boss comes into youroffice, drops aconsultant's report on yourdesk, andcomplains, "We owe these consultants $1.1 million for thisreport, and I am not sure their analysis makes sense. Before we spend the $19 million on new equipment needed for thisproject, look it over and give me youropinion." You open the report and find the following estimates(in millions ofdollars):

1

2

. . .

9

10

Sales revenue

33.000

33.000

33.000

33.000

Cost of goods sold

19.800

19.800

19.800

19.800

=Gross profit

13.200

13.200

13.200

13.200

General, sales, and administrative expenses

1.520

1.520

1.520

1.520

Depreciation

1.900

1.900

1.900

1.900

=Net operating income

9.780

9.780

9.780

9.780

Income tax

3.423

3.423

3.423

3.423

=Net income

6.357

6.357

6.357

6.357

All of the estimates in the report seem correct. You note that the consultants usedstraight-line depreciation for the new equipment that will be purchased today(year 0), which is what the accounting department recommended for financial reporting purposes. CRA allows a CCA rate of 45% on the equipment for tax purposes. The report concludes that because the project will increase earnings by $6.357 million per year for 10years, the project is worth $63.57 million. You think back to your glory days in finance class and realize there is more work to bedone!

First you note that the consultants have not factored in the fact that the project will require $8 million in working capital up front(year 0), which will be fully recovered in year 10. Next you see they have attributed $1.52 million ofselling, general and administrative expenses to theproject, but you know that $0.76 million of this amount is overhead that will be incurred even if the project is not accepted.Finally, you know that accounting earnings are not the right thing to focuson!

a. Given the availableinformation, what are the free cash flows in years 0 through 10 that should be used to evaluate the proposedproject?

a. Given the availableinformation, what are the free cash flows in years 0 through 10 that should be used to evaluate the proposedproject?