QM Industries is a large publicly listed company is the market leader in robotic technology. The company is looking to set up a manufacturing plant overseas to produce a new line of domestic robots. This will be a six year project. The company bought a piece of land three years ago for $ 7 million in anticipation of using it as a toxic dump site for waste chemicals, but instead built a piping system to discard chemicals safely. If the company sold the land today it would receive $ 6.5 million after taxes. In six years the land can be sold for $5.5 million after taxes and reclamation costs. QM wants to build a new manufacturing plant on this land. The plant will cost $250 million to build. The following market data on QM’s securities are current:
1) Calculate the project’s initial, (time 0) cash flows, taking into account all side effects.
2) Compute the current weighted average cost of capital (WACC) of QM Industries. Show all workings and state clearly the assumptions underlying your computations.
3) Using the WACC computed in part (2) above and assuming the following, compute the project’s Net Present Value (NPV), Internal Rate of Return (IRR) and the Profitability Index (PI)
a. The manufacturing plant has a ten-year tax life and QM uses Diminishing value method depreciation for the plant at 20% per annum. At the end of the project, (i.e. at the end of year 6), the plant can be discarded for $ 50 million.
b. The project will incur $160 million per annum in fixed costs
c. QM will manufacture 250,000 domestic robots per year in each of the years and sell them at $ 2,000 per machine.
d. The variable production costs are $ 800 per machine.
e. At the end of year 6, the company will sell the land.