You have been hired as a consultant for Pristine Urban-Tech Zither, Inc. (PUTZ), manufacturers of fine zithers. The market for zithers is growing quickly. The company bought some land three years ago for $1.39 million in anticipation of using it as a toxic waste dump site but has recently hired another company to handle all toxic materials. Based on a recent appraisal, the company believes it could sell the land for $1,490,000 on an aftertax basis. At the end of the project, the land could be sold for $1,590,000 on an aftertax basis. The company also hired a marketing firm to analyze the zither market, at a cost of $124,000. An excerpt of the marketing report is as follows:

The zither industry will have a rapid expansion in the next four years. With the brand name recognition that PUTZ brings to bear, we feel that the company will be able to sell 3,700, 4,600, 5,200, and 4,100 units each year for the next four years, respectively. Again, capitalizing on the name recognition of PUTZ, we feel that a premium price of $640 can be charged for each zither. Since zithers appear to be a fad, we feel at the end of the four-year period, sales should be discontinued.

PUTZ feels that fixed costs for the project will be $420,000 per year and variable costs are 20 percent of sales. The equipment necessary for production will cost $3.4 million and will be depreciated according to a three-year MACRS schedule. At the end of the project, the equipment can be scrapped for $395,000. Net working capital of $124,000 will be required immediately and will be recaptured at the end of the project. PUTZ has a 21 percent tax rate and the required return on the project is 12 percent. Refer to Table 8.3.

What is the NPV of the project?

Depreciation under Modified Accelerated Cost Recovery System (MACRS) YEAR 3 YEARS 1 2 3 .3333 4445 1481 .0741 4 RECOVERY PERIOD CLASS 5 YEARS 7 YEARS 10 YEARS .2000 .1429 .1000 .3200 2449 .1800 .1920 .1749 .1440 .1152 .1249 .1152 .1152 .0893 .0922 .0576 .0892 .0737 .0893 .0655 .0446 .0655 .0656 .0655 .0328 5 6 7 15 YEARS .0500 .0950 .0855 .0770 .0693 .0623 .0590 .0590 .0591 .0590 .0591 .0590 .0591 .0590 .0591 .0295 8 9 10 20 YEARS .03750 .07219 .06677 .06177 .05713 .05285 .04888 .04522 .04462 .04461 .04462 .04461 .04462 .04461 .04462 .04461 .04462 .04461 .04462 04461 .02231 11 12 13 14 15 16 17 18 19 20 21 Depreciation is expressed as a percent of the asset's cost. These schedules are based on the IRS publication 946. How to Depreciate Property and other details on depreciation are presented later in the chapter. Note that five-year depreciation actually carries over six years because the IRS assumes purchase is made in midyear