Derive the net cash flows for a 3-year expansion project in which your firm is purchasing $9,200,000
in equipment. If the project is intended to increase sales by $8,800,000 per year (Note: the Sales
figure of $8.8 million is the same each year), decide whether to accept or reject it (based on its NPV)
given the following information. Also, what is the IRR (relative to the NPV) and how and why
would it be helpful in making this capital budgeting decision?
Depreciation of equipment: MACRS 3 year schedule (33.33%, 44.45%, and 14.81%)
Market value in year 4: $800,000
Marginal Tax Rate: 21% (OCF and WACC)
Capital Gains Tax Rate: 15% (NSV)
Variable/Fixed Costs: 52% of Sales
Increase in Net Working Capital: $600,000
Cost of Capital: See below
Cost of Capital: Use the following inputs for WACC (Re computed using CAPM only)
LT Debt: 15000 bonds outstanding of a 4-year maturity; 1020 = PV; 5.2% = Coupon Rate
(Semiannual)
Common Stock: 65,000 shares outstanding; $52 price today
Preferred Stock: 12,000 shares, 3.5% dividend yield, $92 share price
Other CAPM Information:
ERm = 9%
Rf = 2.00%
Beta = 1.4
Tax Rate = 21%