Tisdall Lawnmowers Manufacturing (TLM)Ltd is looking to expand its production facilities in Geelong.Mr Neil Gunpri,the finance manager of TLM,estimates the new facilities will require an initial outlay of $9.2 million and will generate EBDIT of $3.4 million each year for 5 years.There is expected to be no salvage value.Furthermore,$2 million of the initial outlay is depreciable for tax purposes on a straight- line basis over 5 years.The company pays tax at a rate of 30% and has a cost of capital of 12.5% p.a.What is the NPV of the project?

Question

Quizplus · Accepted Answer

The correct answer is A. The NPV of the project is -$298,579. This is calculated as follows:Initial outlay: $9.2 millionEBDIT: $3.4 million per year for 5 yearsDepreciation: $2 million over 5 yearsTax rate: 30%Cost of capital: 12.5% p.a.The annual cash flow is calculated as follows:EBDIT: $3.4 millionLess: Depreciation: $400,000Tax: $300,000Net cash flow: $2.7 millionThe NPV is calculated as follows:Year 0: -$9.2 millionYear 1: $2.7 million / (1 + 0.125)^1 = $2.4 millionYear 2: $2.7 million / (1 + 0.125)^2 = $2.1 millionYear 3: $2.7 million / (1 + 0.125)^3 = $1.9 millionYear 4: $2.7 million / (1 + 0.125)^4 = $1.7 millionYear 5: $2.7 million / (1 + 0.125)^5 = $1.5 millionNPV = -$9.2 million + $2.4 million + $2.1 million + $1.9 million + $1.7 million + $1.5 million = -$298,579

Tisdall Lawnmowers Manufacturing (TLM)Ltd Is Looking to Expand Its Production