One of Excel Products Ltd.’s strategies is to invest in new product lines. This involves periodic investments in research and development, plant, equipment, and working capital. This year, the company invested $4 million in a research and development project to develop a new product.
The managers are unsure whether they should invest an additional $9 million in capital assets to launch a new product line. The economic life of the project is expected to be 12 years, and straight-line depreciation will be taken over the project’s lifespan. At the end of the life of the project, it is expected that company will sell the equipment and machinery for $2 million.
Working capital will also be invested over the first three years: $2 million during the first year, $1 million during the second, and $500,000 during the third; $2.9 million of that amount is expected to be recovered at the end of the 12-year period. The company estimates that profit before depreciation, promotional expenses, and income taxes will be $3 million a year during the first five years, $4 million per year for the following five years, and $5 million during the last two years. The company’s income tax rate is 46%, and its cost of capital is 10%. For this analysis, the depreciation expense will be used as the CCA tax deduction.
Use the above information to calculate the following for the project:
1. Net present value
2. Internal rate of return
3. Profitability index

  • CreatedDecember 03, 2014
  • Files Included
Post your question