Miller Engineering Research has recently completed a $200,000, two-year study on its latest project. It estimated that 20,000 units of its new geothermal heat pump could be sold annually over the next ten years at a price of $8,521 each. Subcontractors would install the pump at a cost of $6,200 per installation. Fixed costs of $10 million per annum will be incurred.The initial outlay includes $50 million to build production facilities and $3.4 million in land. The $50 million facility will be depreciated using the prime cost method over the projectâs life (fully depreciated at the end of the project). At the conclusion of the project the facilities (including the land) will be sold for an estimated value of $12 million. The land value is expected to increase by 1 per cent annually over the project period.
The firm is an ongoing profitable business and pays taxes at a 30% rate in the year of income. It uses a 10% discount rate on the new project. Using the NPV approach, advise the firm whether the project should be undertaken. Ignore any capital gains tax.