A project will produce operating cash flows of $60,000 a year for four years. During the life of the project, inventory will be lowered by $20,000 and accounts receivable will increase by $25,000. Accounts payable will decrease by $10,000. The project requires the purchase of equipment at an initial cost of $200,000. The equipment will be depreciated straight-line to a zero book value over the life of the project. The equipment will be salvaged at the end of the project creating a $30,000 after-tax cash flow. At the end of the project, net working capital will return to its normal level. What is the net present value of this project given a required return of 12%?

Question

Quizplus · Accepted Answer

The net present value (NPV) is calculated by considering the initial investment, operating cash flows, changes in net working capital, and the salvage value. The initial investment is $200,000. The net change in working capital is -$15,000 ($20,000 decrease in inventory - $25,000 increase in accounts receivable - $10,000 decrease in accounts payable). The annual depreciation is $50,000 ($200,000/4 years). The annual cash flow is $60,000, and the salvage value is $30,000. The NPV is calculated using these cash flows and a discount rate of 12%, resulting in an NPV of -$4,160.73.

A Project Will Produce Operating Cash Flows of $60,000 a Year