Dahlia
Enterprises needs someone to supply it with 110,000 cartons of machine
screws per year to support its manufacturing needs over the next five
years, and you’ve decided to bid on the contract. It will cost you
$770,000 to install the equipment necessary to start production; you’ll
depreciate this cost straight-line to zero over the project’s life. You
estimate that in five years, this equipment can be salvaged for $60,000.
Your fixed production costs will be $315,000 per year, and your
variable production costs should be $9.30 per carton. You also need an
initial investment in net working capital of $65,000. If your tax rate
is 34 percent and your required return is 10 percent on your investment,
what bid price should you submit? (Do not round intermediate calculations and round your final answer to 2 decimal places. (e.g., 32.16))
Explanation:
To
find the bid price, we need to calculate all other cash flows for the
project, and then solve for the bid price. The aftertax salvage value of
the equipment is:
|
Aftertax salvage value = $60,000(1 − 0.34) = $39,600 |
Now we can solve for the necessary OCF that will give the project a zero NPV. The equation for the NPV of the project is:
|
NPV = 0 = −$770,000 − 65,000 + OCF(PVIFA10%,5) + [($65,000 + 39,600) / 1.105] |
Solving for the OCF, we find the OCF that makes the project NPV equal to zero is: |
OCF = $770,051.63 / PVIFA12%,5 = $203,137.68 |
The easiest way to calculate the bid price is the tax shield approach, so: |
OCF = $203,137.68 = [(P − v)Q − FC](1 − T) + TD |
$203,137.68 = [(P − $9.30)(110,000) − $315,000](1 − 0.34) + 0.34($770,000/5) |
P = $14.24 |
No comments:
Post a Comment