ABC Corporation is considering an expansion project. To date they have spent $150,000 investigating the viability of the project and have decided to proceed. The proposed project will cost $1,900,000 in addition to the $150,000 that was spent on the feasibility study. The project will be depreciated over a 3 year MACRS class life. Here is the MACRS depreciation schedule, Year 1=33%, Year 2=45%, Year 3=15%, Year 4= 7%.
If the project is undertaken the company will need to increase its inventories by $550,000, and its accounts payable will rise by $300,000. The company will realize an additional $1,700,000 in sales over each of the next four years. The company's operating costs (not including depreciation) will increase by $850,000 a year. The company's tax rate is 40%. At t = 3, the project's economic life is complete, but it will have a salvage value (before-tax) of $170,000 after three years. The project's WACC is 15%.
A) What is the project's net present value (NPV)? What is the IRR?
B) Write a short memo to management explaining your analysis and making a recommendation. Should the project be accepted? Why or why not? (i.e. Explain what your numerical answer means.)
Please show work. I am having trouble with this one and want to make sure I know it for my final exam. Thanks!