Finance, Capital Budgeting
Bachelors/Undergraduate, Masters/Postgraduate
Homework, Assessment
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Your company has an investment opportunity. The project’s equipment costs $1 million dollars (at time zero) and you expect that you can sell the equipment for $350,000 million at the end of the project (at time 6). First year sales are expected to be $450,000. Sales are expected to increase by 20% each year. Expenses will be 60% of sales for the life of the project. The project will last 6 years. According to the new tax laws, 100% of the equipment cost can be depreciated in the first year (this means there is only one depreciation expense in the first year). Net-working capital requirements are 25% of the following year’s sales (for example, year 0 net-working capital outflow will be 25% of year 1 sales). All of net-working capital will be fully recovered at the end of the project. Your company spent $750,000 to develop a prototype for a new product. The company has spent a further $200,000 for a marketing study to determine the expected sales figures. This project has the same risk as the company overall and, therefore you should use the company’s WACC in your analysis. The required payback period is 3 years. The required discounted payback period is 3.5 years.

Your job is to decide whether or not the company should undertake this project.

Use a tax rate of 21% to reflect the new tax policy. Adjust the WACC that you calculated in your previous case according to the new tax policy and then use that WACC as the discount rate for this case.

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