HM Company is contemplating a new project that demands a $5 million investment in plant and machinery. Sales forecasts for the project indicate $2 million in the first year, $4 million in the second year, and $6 million in the third year. Future sales are expected to increase at a rate matching the anticipated inflation of 10%. The project involves scrapping the plant after 6 years, with an estimated salvage value of $1 million. Tax-related depreciation follows a straight-line pattern at $1 million per year. Cost of goods is projected to be 70% of sales, and working capital needs are minimal. The company is subject to a 35% tax rate. a) Compute the projected cash flows for each year and determine the Net Present Value (NPV) of the investment, assuming a required rate of return of 16%. b) Reassess the calculations, this time analyzing the project in real terms rather than nominal terms. Discount the cash flows using an estimated real rate of approximately 5.45%.
HM Company is contemplating a new project that demands a $5 million investment in plant and machinery. Sales
a) Compute the projected cash flows for each year and determine the
b) Reassess the calculations, this time analyzing the project in real terms rather than nominal terms. Discount the cash flows using an estimated real rate of approximately 5.45%.
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