Thinking about expanding its facilities

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Reference no: EM131886570

Kirksey Bookstores is thinking about expanding its facilities. In considering the expansion, Kirksey’s finance staff has obtained the following information: The expansion will require the company to purchase initially (t = 0) $5 million of equipment (this amount includes shipping and installation).

The equipment will be depreciated over the following four years at the following rates (3-year MACRS class): t = 1 33% t = 2 45 t = 3 15 t = 4 7

The expansion will require the company to increase its net operating working capital by $500,000 today (t = 0). This net operating working capital will be recovered at the end of four years (t = 4). The equipment is expected to have a salvage value of $2 million at the end of four years.

The company’s tax rate is 40 percent and the company’s other divisions are expected to have positive tax liabilities throughout the project’s life. The WACC (discount rate or required return) for the project is 10 percent. The expansion will increase the company’s dollar sales.

The projected increases, all relative to current sales are (i.e., incremental sales):

Year 1: $3.0 million

Year 2: 3.5 million

Year 3: 4.5 million

Year 4: 4.0 million

(For example, in Year 4 sales will be $4 million more than they would have been had the project not been undertaken.)

After the fourth year, the equipment will be obsolete, and will no longer provide any additional incremental sales. The company’s operating costs, excluding depreciation, are expected to be 50 percent of the company’s annual sales. What is the proposed project's NPV?

Reference no: EM131886570

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