Question
You are thinking of re-fitting your current equipment in order to produce compostable packaging. The project would require purchasing some new machinery for $1OOOK. This
You are thinking of re-fitting your current equipment in order to produce compostable packaging. The project would require purchasing some new machinery for $1OOOK. This would increase sales for the next 5 years. The projected (incremental) sales number in year 1 is $8OOK, after which sales will grow at 3% annually. The cost of manufacturing for this project is 40% of sales, the overhead attributable to this project is $10OK a year, receivables are maintained at 20% of sales for years 1-4, and payables are maintained at 20% of the cost of manufacturing for years 1-4.
You also know that the machine is depreciated with the straight-line method over the life of the project, and the project needs additional investment in raw materials at time zero to get the production off the ground. The materials cost $20OK and will need to be paid in cash. Materials balance will be kept at
$20OK, as long as it makes economic sense. At end of year 5, you can sell the machine for $3OOK.
The marginal corporate tax rate is 35%. The cost of capital for this project is 8% p.a. Using FCF analysis tools and common business sense, find the value of the project.
In Excel:
- Present the Pro-forma, cash flows, and the NPV of the project.
- Perform the sensitivity analysis of the project value with respect to the discount rate.
- Find the break-even level of the 1st year's sales.
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