Question: CAPITAL BUDGETING
Rohtas industries is analysing a proposal to build a pulp mill.The capital budgeting department of the company has developed the following data:
Building acquisition, cost incurred at start of year 1(t=0) $ 300,000
Plant construction, cost incurred at start of year 1(t=1) $ 700,000
Equipment purchase, cost incurred at start of year 1(t=2) $ 1,000,000
Net WC,investment made at start of year 4(t=3) $ 400,000
Operations will begin in year 4 and will continue for 10 years through year 13.Sales revenues and operating costs are assumed to come at the end of each year(t= 4 - 13).The following additional assumptions are made:
1) The plant and equipment will be depriciated over a 10 year period starting in year 4;the equipment will be worthless after use for 10 years.However,the company expects to value the building at notional value of $ 300,000 when the plant is closed down.The company uses the the straight line method for depriciation.
2) Its cost of capital is 14%
3) Annual sales are $ 1235000 (at full capacity)
4) Annual fixed operating costs excluding depriciation are $135000
5) Annual variable operating costs are $ 200000 (at full capacity)
6) The company's normal tax rate is 50% with an additional surcharge of 10%
Should the company accept this project? Use the NPV method for the purpose of calculation.