• The firm’s plowback ratio (this ratio is also called the retention ratio and the reinvestment rate) is 60%
• The firm’s tax rate is 40%
• The required return on the company’s stock is 10%

1. ABC corporation has existing property and equipment that is not in use. The company is considering the use of this property and equipment. One option is to use the property and equipment to produce a new product. Estimates for demand of this product are 30,000 units annually for the first 5 years and 20,000 units annually for the following 6 years. Beyond that, the product is considered to be obsolete and production will cease. Price and variable costs would be $100 and $65, respectively. Fixed costs would be $225,000 per year. If they take this option, they must buy additional equipment for a total of $2 million. This equipment will be depreciated straight-line to zero. When the project is ended (in 11 years), it is expected they will be able to sell the equipment for $130,000. This option also requires an initial net working capital investment of $400,000. This initial NWC investment can be reduced to $300,000 when sales drop (i.e. from year 5 to year 6). The net working capital will be fully recouped at the end of the project. This project is riskier than the average project for the company. Management has determined that the appropriate discount rate to use will be 12%.
   1. What is this project’s OCF for years 1-5?
   2. What is this project’s OCF for years 6-11?
   3. What is this project’s FCF for year 0?
   4. What is this project’s FCF for years 1-5?
   5. What is this project’s FCF for year 6?
   6. What is this project’s FCF for years 7-10?
   7. What is this project’s FCF for year 11?
   8. What is the project’s NPV?
   9. What is the project’s break-even price?

   2009	2010
   Sales ($ millions)	1000	1112
   Cost of Goods Sold ($ millions)	500	556
   Other Expenses ($ millions)	100	111
   Depreciation ($ millions)	100	100
   Interest Expense ($ millions)	50	55
   Total Current Assets ($ millions)	600	700
   Total Fixed Assets ($ millions)	2200	2500
   Accumulated Depreciation ($ millions)	400	This can be determined from the information given
   Net Fixed Assets ($ millions)	1800	2000
   Total Current Liabilities ($ millions)	450	550
   Long-term Liabilities ($ millions)	900	975
   Common Stock ($ millions)	500	This can be determined from the information given

 

Answer rating: 100% (QA)

To calculate the projects operating cash flow OCF and free cash flow FCF for different years we need ... View the full answer