An investment alternative in an engineering project requires a capital cost (to purchase and install equipment) of $100 million completed at time zero. The equipment has no salvage value after it is installed.
The investment will produce a stream of revenue of $48 million per year-end over a 7-year period with operating costs of $20 million per year-end.
Use declining-balance depreciation for the capital cost over the project lifespan with d=20%, until the final year when you can fully depreciate the balance.
The rate of taxation on the income is 38%, the inflation rate is given as 4% (applied to both revenue & cost), and the cost of capital, to be used for discounting purposes, is 8%.
i) Construct the cash flow table, calculate the after-tax annual cash flows, and determine the undiscounted payback period;
ii) Calculate the present worth, PW, for this project, based on the after tax annual cashflows.
iii) Using linear interpolation calculate the internal rate of return for this project, based on the after tax annual cashflows.
TIP: For iii), use linear interpolation to determine the interest rate that make PW=0