GnuYak Industries is considering a new project that will last for three years. This project requires...

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GnuYak Industries is considering a new project that will lastfor three years. This project requires an initial investment in amachine that costs £90,000 immediately (year 0) and will bedepreciated in straight line over its three-year life to a residualvalue of 0. The management expects this project will result insales of £100,000 and cost of goods sold will be 50% of sales eachyear. This project also requires a total net working capital of£10,000 in year 0 which will be fully recovered in year 3. GnuYakis in the 35% corporate tax bracket.
a. Calculate the total Free Cash Flows for each year of this newproject.
b. Suppose that the appropriate discount rate for this projectis 10%, calculate the NPV of this project.

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4.4 Ratings (812 Votes)

Time line		0	1	2	3



Cost of new machine		-90000
Initial working capital		-10000
=Initial Investment outlay		-100000


Sales			100000	100000	100000
Profits	Sales-variable cost		50000	50000	50000


-Depreciation	Cost of equipment/no. of years		-30000	-30000	-30000

=Pretax cash flows			20000	20000	20000
-taxes	=(Pretax cash flows)*(1-tax)		13000	13000	13000
+Depreciation			30000	30000	30000
=a. FCF			43000	43000	43000

reversal of working capital					10000


+Tax shield on salvage book value	=Salvage value * tax rate				0
=Terminal year after tax cash flows					10000

Total Cash flow for the period		-100000	43000	43000	53000
Discount factor=	(1+discount rate)^corresponding period	1	1.1	1.21	1.331
Discounted CF=	Cashflow/discount factor	-100000	39090.90909	35537.19	39819.684
b. NPV=	Sum of discounted CF=	14447.78

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GnuYak Industries is considering a new project that will lastfor three years. This project requires an initial investment in amachine that costs £90,000 immediately (year 0) and will bedepreciated in straight line over its three-year life to a residualvalue of 0. The management expects this project will result insales of £100,000 and cost of goods sold will be 50% of sales eachyear. This project also requires a total net working capital of£10,000 in year 0 which will be fully recovered in year 3. GnuYakis in the 35% corporate tax bracket.a. Calculate the total Free Cash Flows for each year of this newproject.b. Suppose that the appropriate discount rate for this projectis 10%, calculate the NPV of this project.