Star Chemicals is undertaking a contract to supply a special compound (which was developed at a cost
Question:
Star Chemicals is undertaking a contract to supply a special compound (which was developed at a cost of £75,000) to Moon Plastics from next year. The contract is to supply 1200 kgs per year of this special compound at £360 per kg for five years. The cost estimates to produce one kg of this compound are as follows: Raw materials - £150 Labour - £100 Allocation of general fixed and variable overheads - £50. To fulfil this contract, Star Chemicals would need further investment in machinery, fixed costs, space, and working capital. The new machinery would require an investment of £150,000, which would be depreciated on a straight line basis for tax purposes over its useful life of five years. The machinery could then be sold for £50,000 at the end of five years. Star Chemicals would also use some of its existing equipment, which can be sold for £25,000 today. This equipment has already been fully depreciated for tax purposes and will have no resale value in four years. To undertake this project, Star Chemical would incur additional annual fixed costs of £27,000. The additional space required to produce this compound would mean that Star Chemical would have to lease extra production space at a cost of £24,000 per year. Finally, an additional £20,000 working capital investment would be needed at the start and recouped at the end of the project. The tax rate and cost of capital (after-tax) for Star Chemicals are 33% and 15%, respectively. Ignore inflation.
Required (show all calculations):
i. Identify all relevant and irrelevant cashflows
ii. Annual Depreciation schedule
iii. Annual tax schedule
iv. Annual net income
v. Annual operating cashflows
vi. Annual free cashflows
vii. NPV of the project
Business Statistics For Contemporary Decision Making
ISBN: 9781119577621
3rd Canadian Edition
Authors: Ken Black, Ignacio Castillo