Consider a situation as follows: you try to make a bid for a project and the rule
Question:
Consider a situation as follows: you try to make a bid for a project and the rule is that person submitting the lowest bid wins. You have an idle parcel of land available that cost $2 million five years ago. If you win the bid, then you have to use the land for the new project and can sell 1 million units of the product per year for the next ten years. If the land were sold today, the pre-tax market value would be $2 million. The land can be sold for $10 million pre-tax at the end of the project. You will need to install new manufacturing plant and equipment to actually produce the products. The initial investment for the new plant and equipment would be $10 million; this plant and equipment will be depreciated straight-line to zero over the project's ten-year life. The equipment can be sold for $2 million pre-tax at the end of the project. The project also requires $3 million investment in the net working capital. We assume that no additional investment in the net working capital is required thereafter. We assume the money tied up in the net working capital accounting will be fully recovered at the end of the project. The variable production cost is $1 dollar per unit, and the fixed cost is $2 million per year. The marginal tax rate is 35% and the discount rate is 12%. What is the minimum bid price you should submit?
Fundamentals of Corporate Finance
ISBN: 978-0077861629
8th Edition
Authors: Stephen A. Ross, Randolph W. Westerfield, Bradford D.Jordan