Better Mousetraps has developed a new trap. It can go into production for an initial investment in equipment of $6.3 million. The equipment will be depreciated straight line over 6 years to a value of zero, but in fact it can be sold after 6 years for $549,000. The firm believes that working capital at each date must be maintained at a level of 10% of next year's forecast sales. The firm estimates production costs equal to $1.60 per trap and believes that the traps can be sold for $6 each. Sales forecasts are given in the following table. The project will come to an end in 6 years, when the trap becomes technologically obsolete. The firm's tax bracket is 35%, and the required rate of return on the project is 10%. Use the MACRS depreciation schedule. Year: Sales (millions of traps) 1 5 0.5 Thereafter 0.6 0.8 1.0 1.0 0.3 a. What is project NPV? (Negative amount should be indicated by a minus sign. Do not round intermediate calculations. Enter your answer in millions rounded to 4 decimal places.) X Answer is complete but not entirely correct. NPV 4.3445 X million b. By how much would NPV increase if the firm depreciated its investment using the 5-year MACRS schedule? (Do not round intermediate calculations. Enter your answer in whole dollars not in millions.)
Better Mousetraps has developed a new trap. It can go into production for an initial investment in equipment of $6.3 million. The equipment will be depreciated straight line over 6 years to a value of zero, but in fact it can be sold after 6 years for $549,000. The firm believes that working capital at each date must be maintained at a level of 10% of next year's forecast sales. The firm estimates production costs equal to $1.60 per trap and believes that the traps can be sold for $6 each. Sales forecasts are given in the following table. The project will come to an end in 6 years, when the trap becomes technologically obsolete. The firm's tax bracket is 35%, and the required rate of return on the project is 10%. Use the MACRS depreciation schedule. Year: Sales (millions of traps) 1 5 0.5 Thereafter 0.6 0.8 1.0 1.0 0.3 a. What is project NPV? (Negative amount should be indicated by a minus sign. Do not round intermediate calculations. Enter your answer in millions rounded to 4 decimal places.) X Answer is complete but not entirely correct. NPV 4.3445 X million b. By how much would NPV increase if the firm depreciated its investment using the 5-year MACRS schedule? (Do not round intermediate calculations. Enter your answer in whole dollars not in millions.)
Essentials Of Investments
11th Edition
ISBN:9781260013924
Author:Bodie, Zvi, Kane, Alex, MARCUS, Alan J.
Publisher:Bodie, Zvi, Kane, Alex, MARCUS, Alan J.
Chapter1: Investments: Background And Issues
Section: Chapter Questions
Problem 1PS
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Transcribed Image Text:**Project Evaluation: Better Mousetraps**
Better Mousetraps has developed a new trap. It can go into production with an initial investment in equipment of $6.3 million. The equipment will be depreciated using the straight-line method over 6 years to a value of zero, although it can be sold after 6 years for $549,000. The firm requires working capital at each date to be maintained at 10% of next year's forecast sales. Production costs are estimated at $1.60 per trap, with sales anticipated at $6 each. The sales forecasts are as follows:
| Year | Sales (millions of traps) |
|------|---------------------------|
| 0 | 0 |
| 1 | 0.6 |
| 2 | 0.8 |
| 3 | 1.0 |
| 4 | 1.4 |
| 5 | 1.0 |
| 6 | 0.5 |
| Thereafter | 0 |
The project's duration is 6 years, after which the product becomes obsolete. The tax rate is 35%, and the discount rate (required return) is 10%. The MACRS depreciation schedule is applicable.
**Questions:**
a. **What is the project's Net Present Value (NPV)?**
*(Negative amounts should be indicated by a minus sign. Do not round intermediate calculations. Enter your answer in millions rounded to 4 decimal places.)*
- **Provided Answer:** $4.3445 million
- **Feedback:** Answer is complete but not entirely correct.
b. **By how much would NPV increase if the firm depreciated its investment using the 5-year MACRS schedule?**
*(Do not round intermediate calculations. Enter your answer in whole dollars not in millions.)*
- **Provided Answer:** The NPV increases by $4,344,551
- **Feedback:** Answer is complete but not entirely correct.
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