Problem
Your firm, One Tower, Inc., is thinking about replacing equipment in its production facilities. In considering the replacement, you obtained the following information:
1) The expansion will require the company to purchase today (t = 0) $5 million of new equipment. An additional $200,000 in installation charges will be required. The equipment will be depreciated as MACRS 3-year property over the following four years at the following rates: t = 1 33% t = 2 45% t = 3 15% t = 4 7%
2) The expansion will require the company to increase its net operating working capital by $150,000 today (t = 0). This net operating working capital will be recovered at the end of the project's 5-year economic life.
3) The old equipment is fully depreciated (Book Value = $0) and can be sold for $85,000 .
4) The new equipment is expected to have a salvage value of $30,000 at the end of its 5-year economic life.
5) The company's operating costs, excluding depreciation, are expected to reflect a decrease of $75,000 per year for each year the new equipment is in operation.
6) The new equipment will increase the company's sales. The projected increases are as follows: Year 1: $3.0 million Year 2: 3.5 million Year 3: 2.5 million Year 4: 1.5 million Year 5: 1.0 million
7) The required return for the project is 15%. The company's tax rate is 40%.
Task
1) Forecast the Net Initial Investment, NCFs over the expected life, and the Terminal Value.
2) What are the proposed project's Net Present Value (NPV) and Internal Rate of Return (IRR)?
3) If there are no other project proposals in the company and you have the money available to fund this project, will you fund the project proposal or not? Why?