8. After spending $10,000 on client development, you have justbeen offered a big production contract by a new client. Thecontract will add $200,000 to your revenues for each of the next 5years and it will cost you $100,000 per year to make the additionalproduct. You will have to liquidate existing equipment and buy newequipment as well. The existing equipment is fully depreciated butcould be sold for $50,000 now. You will buy new equipment valued at$30,000 and use the 5-year MACRS schedule to depreciate it. It willbe worthless at the end of the project. Your current productionmanager earns $80,000 per year. Since she is busy with ongoingprojects, you are planning to hire an assistant at $40,000 per yearto help with the expansion. You will have to increase yourinventory immediately from $20,000 to $30,000. It will return to$20,000 at the end of the project. Your company’s tax rate is 35%and your discount rate is 15%. What is the NPV of the contract?(Answer: $135,452.5) (Hints: The $10,000 on client development hasalready happened in the past and thus should NOT affect ourreplacement decision. Our replacement decision depends only onfuture expected incremental free cash flows resulting from thedecision. The costs resulting from past decisions are called sunkcosts and are irrelevant to current replacement decision. Thesalary of current production manager ($80,000) is also considered asunk cost and is irrelevant information. Assume that we liquidateexisting equipment and purchase new equipment in year 0 but put newequipment into work in year 1.)

Year	0	1	2	3	4	5	6
New equipment cost
MACRS depreciation schedule		20%	32%	19.20%	11.52%	11.52%	5.76%
Depreciation expenses

Year	W/O project	0	1	2	3	4	5
Level of NWC
Change in NWC
Subtract change in NWC

Year	0	1	2	3	4	5	6
Revenues
Costs
Gross Profit
Selling, general, and administrative (e.g., salary of a newassistant)
Depreciation
EBIT
Tax (35%)
Incremental Earnings
Add back depreciation
Capital expenditure
Subtract change in NWC
Salvage cash flow
Incremental FCF