Question 3

Parker & Stone, Inc., is considering a new project that requires an initial fixed asset investment of 1.2 million. The project also requires an initial investment in net working capital of $250,000. The project is expected to generate $950,000 in sales and cost $400,000 every year for three years. The fixed asset follows a straight-line depreciation. After three years, the fixed asset has a zero book value but is estimated to have a market value of $200,000, and the net working capital will fully recovery. The corporate tax rate is 35%.

1. What are the operating cash flows in each year? (3 marks)
2. What are the cash flows from net working capital and the net capital spending in year 3? (3 marks)
3. What are the CFFA in each year? (4 marks)
4. If the required return is 10% for a similar risk level of project, should the company implement this project? (6 marks)