Please answer the following questions. Please write all yourwork. You will be graded on your process, NOT on achieving thecorrect answer. Please staple all pages together. Include your nameon every page.

1) Wacky Widgets, Incorporated is considering a new three-yearexpansion project to make new Widgets. It requires an initial fixedinvestment of $2.7 million. The fixed asset will be depreciatedstraight-line to zero over its three-year tax life, after which itwill be sold for $50,000 to a scrapyard. The fixed asset will take2 years to install, so revenue will begin in year 2.

The project is estimated to generate $2,800,000 in annual sales,with variable costs of 40 percent. There are no fixed costs, andworking capital requirements are 5% of annual revenues. The taxrate is 35 percent and the required rate of return is 15 percent.The risk-free rate is 9 percent. Your firm requires a paybackperiod of 3 years to approve a project.

The Widget produced by this product will often go to the samecustomers as the Bidget, another product produced by Wacky Widgets.They will often be shipped in the same package as another productthe firm produces. It will not reduce the overhead on producingWidgets, but it will reduce the cost of shipping Bidgets by $20,000per year in years 2 - 4.

Answer this question using longhand. Write out eachequation.

a) Construct a full pro-forma statement for this project’sprojected incremental cash flows.

b) What is the payback period? Based on this decision rule,should you do the project?

c) What is the discounted payback period? Based on this decisionrule, should you do the project?

d) What is the NPV? Based on this decision rule, should you dothe project?

e) What is the IRR? Based on this decision rule, should you dothe project?

f) What is the profitability index? Based on this decision rule,should you do the project?

g) Should you approve the project? What decision rule are youusing to make your final decision?