Companies invest in expansion projects with the expectation ofincreasing the earnings of its business.

Consider the case of Garida Co.:

Garida Co. is considering an investment that will have thefollowing sales, variable costs, and fixed operating costs:

	Year 1	Year 2	Year 3	Year 4
Unit sales	3,500	4,000	4,200	4,250
Sales price	$38.50	$39.88	$40.15	$41.55
Variable cost per unit	$22.34	$22.85	$23.67	$23.87
Fixed operating costs	$37,000	$37,500	$38,120	$39,560

This project will require an investment of $25,000 in newequipment. Under the new tax law, the equipment is eligible for100% bonus deprecation at t = 0, so it will be fully depreciated atthe time of purchase. The equipment will have no salvage value atthe end of the project’s four-year life. Garida pays a constant taxrate of 25%, and it has a weighted average cost of capital (WACC)of 11%. Determine what the project’s net present value (NPV) wouldbe under the new tax law.

Determine what the project’s net present value (NPV) would beunder the new tax law.

$47,736

$54,896

$38,189

$57,283

Now determine what the project’s NPV would be when usingstraight-line depreciation $------------------------  

Using the------------- depreciation method will result in thehighest NPV for the project.

No other firm would take on this project if Garida turns itdown. How much should Garida reduce the NPV of this project if itdiscovered that this project would reduce one of its division’s netafter-tax cash flows by $300 for each year of the four-yearproject?

$1,024

$931

$791

$559

Garida spent $2,750 on a marketing study to estimate the numberof units that it can sell each year. What should Garida do to takethis information into account?

A) Increase the amount of the initial investment by $2,750.

B) The company does not need to do anything with the cost of themarketing study because the marketing study is a sunk cost.

C) Increase the NPV of the project $2,750.