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MULCHER PROJECT

MMCC is investigating the feasibility of a new line of power mulching tools aimed at th
growing number of home composters. Based on exploratory conversations with buyers
large garden shops, MMCC projects unit sales as follows:

Year Unit Sales


1 3000
2 5000
3 6000
4 6500
5 6000
6 5000
7 4000
8 3000

The new power mulcher will sell for $120 per unit to start with. When the competition
up after three years however MMCC anticipates that the price will drop to $110.
The Power Mulcher project requires $20,000 in net working capital at the start .Subseq
total net working capital at the end of each year will be about 15% of sales for that yea
variable cost per unit is $60 and total fixed costs are $25,000 per year.

It will cost $800,000 to buy the equipment necessary to begin production. This investm
primarily in industrial equipment, which qualifies as seven year MACRS property .The
equipment will be worth about 20 per cent of its costs in eight years. The relevant tax r
per cent and the required return is 15 per cent. Based on this information should MMC
proceed
?
Additional Data : Property Class for Modified Accelerated Cost Recovery System (MACRS)

Year Three Year Five Year Seven Year

1 33.33% 20% 14.29%


2 44.45 32 24.49
3 14.81 19.2 17.49
4 7.41 11.52 12.49
5 11.52 8.93
6 5.76 8.92
7 8.93
8 4.46
SOLUTION

Table :1
PROJECTED REVENUES -POWER MULCHER PROJECT

YEAR UNIT PRICE UNIT SALES REVENUES


1 120 3000 360000
2 120 5000 600000
3 120 6000 720000
4 110 6500 715000
5 110 6000 660000
6 110 5000 550000
7 110 4000 440000
8 110 3000 330000

TABLE 2: ANNUAL DEPRECIATION POWER MULCHER PROJECT


INITIAL COST 800000
YEAR MACRS PERCENTDEPRECIATION
1 0.1429 114320
2 0.2449 195920
3 0.1749 139920
4 0.1249 99920
5 0.0893 71440
6 0.0892 71360
7 0.0893 71440
8 0.0446 35680

TABLE 3 PROJECTED INCOME STATEMENTS

YEAR
1 2 3
UNIT PRICE 120 120 120
UNIT SALES 3000 5000 6000
REVENUES 360000 600000 720000
VARIABLE COST 180000 300000 360000
FIXED COST 25000 25000 25000
DEPRECIATION 114320 195920 139920
EBIT 40680 79080 195080
TAXES(34%) 13831.2 26887.2 66327.2
NET INCOME 26848.8 52192.8 128752.8

TABLE 4 : CHANGES IN NET WORKING CAPITAL ,POWER MULCHER PROJECT

YEAR REVENUES NWC CASH FLOW


0 20000 -20000
1 360000 54000 -34000
2 600000 90000 -36000
3 720000 108000 -18000
4 715000 107250 750
5 660000 99000 8250
6 550000 82500 16500
7 440000 66000 16500
8 330000 49500 16500

TABLE:5 PROJECTED CASH FLOWS , POWER MULCHER PROJECT

YEAR
0
1.OPERATING CASH FLOW
EBIT
DEPRECIATION
TAXES
OPERATING CASH FLOW

2. NET WORKING CAPITAL (NWC)


INITIAL NWC -20000
CHANGES IN NWC
NWC RECOVERY
TOTAL CHANGES IN NWC -20000

3. CAPITAL SPENDING
INITIAL OUTLAY -800000
AFTER TAX SALVAGE VALUE
TOTAL CAPITAL SPENDING -800000

ATSV=SV-TAXES PAID
SV=0.20*800000=160,000

TAXES PAID=(SV-BV)*TAX RAT


ATSV=160000-54400

OPERATING CASH FLOW (OCF)


TOTAL CHANGES IN NWC
CAPITAL SPENDING
TOTAL PROJECT CASH FLOWS
ulching tools aimed at the
onversations with buyers for

h. When the competition catches


will drop to $110.
apital at the start .Subsequently,
15% of sales for that year .The

production. This investment is


r MACRS property .The
years. The relevant tax rate is 34
nformation should MMCC

System (MACRS)
4 5 6 7 8
110 110 110 110 110
6500 6000 5000 4000 3000
715000 660000 550000 440000 330000
390000 360000 300000 240000 180000
25000 25000 25000 25000 25000
99920 71440 71360 71440 35680
200080 203560 153640 103560 89320
68027.2 69210.4 52237.6 35210.4 30368.8
132052.8 134349.6 101402.4 68349.6 58951.2

MULCHER PROJECT

54000-20000

1 2 3 4 5 6 7 8

40680 79080 195080 200080 203560 153640 103560 89320


114320 195920 139920 99920 71440 71360 71440 35680
13831.2 26887.2 66327.2 68027.2 69210.4 52237.6 35210.4 30368.8
141168.8 248112.8 268672.8 231972.8 205789.6 172762.4 139789.6 94631.2

-34000 -36000 -18000 750 8250 16500 16500 16500


49500
-34000 -36000 -18000 750 8250 16500 16500 66000

105600
105600

TSV=SV-TAXES PAID
V=0.20*800000=160,000

AXES PAID=(SV-BV)*TAX RATE

(160000-0)*0.34
54400
TSV=160000-54400
105600

PROJECTED TOTAL CASH FLOW , POWER MULCHER PROJECT


YEAR
0 1 2 3 4 5 6 7 8
141168.8 248112.8 268672.8 231972.8 205789.6 172762.4 139789.6 94631.2
-20000 -34000 -36000 -18000 750 8250 16500 16500 66000
-800000 105600
-820000 107168.8 212112.8 250672.8 232722.8 214039.6 189262.4 156289.6 266231.2

NPV $65,484.83
IRR 17.24%
PAYBACK 4.08 YEARS

820000 CF RECOVERY
1 107168.8 712831.2
2 212113 500718.2
3 250673 250045.2
4 232723 17322.2
5 214040 0.08093