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NEW PROJECT ANALYSIS Holmes Manufacturing is considering a new machine that costs $250,000 and would reduce pretax manufacturing costs by $90,000 annually. Holmes would use the 3-year MACRS method to depreciate the machine, and management thinks the machine would have a value of $23,000 at the end of its 5-year operating life. The applicable depreciation rates are 33%, 45%, 15%, and 7%, as discussed in Appendix 12A. Net operating working capital would increase by $25,000 initially, but it would be recovered at the end of the project's 5-year life. Holmes's marginal tax rate is 40%, and a 10% WACC is appropriate for the project. a. Calculate the project's NPV, IRR. M1RR, and payback. b. Assume management is unsure about the $90,000 cost savings—this figure could deviate by as much as plus or minus 20%. What would the NPV be under each of these situations? c. Suppose the CFO wants you to do a scenario analysis with different values for the cost savings, the machine's salvage value, and the net operating working capital (NOWC) requirement. She asks you to use the following probabilities and values in the scenario analysis: Calculate the project’s expected NPV, its standard deviation, and its coefficient of variation. Would you recommend that the project be accepted? Why or why not?

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Fundamentals of Financial Manageme...

15th Edition
Eugene F. Brigham + 1 other
Publisher: Cengage Learning
ISBN: 9781337395250
BuyFind

Fundamentals of Financial Manageme...

15th Edition
Eugene F. Brigham + 1 other
Publisher: Cengage Learning
ISBN: 9781337395250

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Chapter
Section
Chapter 12, Problem 19P
Textbook Problem

NEW PROJECT ANALYSIS Holmes Manufacturing is considering a new machine that costs $250,000 and would reduce pretax manufacturing costs by $90,000 annually. Holmes would use the 3-year MACRS method to depreciate the machine, and management thinks the machine would have a value of $23,000 at the end of its 5-year operating life. The applicable depreciation rates are 33%, 45%, 15%, and 7%, as discussed in Appendix 12A. Net operating working capital would increase by $25,000 initially, but it would be recovered at the end of the project's 5-year life. Holmes's marginal tax rate is 40%, and a 10% WACC is appropriate for the project.

  1. a. Calculate the project's NPV, IRR. M1RR, and payback.
  2. b. Assume management is unsure about the $90,000 cost savings—this figure could deviate by as much as plus or minus 20%. What would the NPV be under each of these situations?
  3. c. Suppose the CFO wants you to do a scenario analysis with different values for the cost savings, the machine's salvage value, and the net operating working capital (NOWC) requirement. She asks you to use the following probabilities and values in the scenario analysis:

Chapter 12, Problem 19P, NEW PROJECT ANALYSIS Holmes Manufacturing is considering a new machine that costs 250,000 and would

Calculate the project’s expected NPV, its standard deviation, and its coefficient of variation. Would you recommend that the project be accepted? Why or why not?

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Chapter 12 Solutions

Fundamentals of Financial Management (MindTap Course List)
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