Free Cash Flow - Practice exercise PDF

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Free Cash Flow - Exercise & Solution...

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Finance I - Session 17 Practise exercise Your company is considering a 3-year contract to produce organic chocolates in Madrid. In what follows you find information about the project that is potentially important for its valuation. ü Production would require new equipment with a cost of €40,000 that would be depreciated on a 4-year straight-line basis to zero. You think you might be able to sell the equipment at the end of the contract (in t = 3) for €14,000. ü You would also use some existing equipment with a book value of zero that could otherwise be immediately sold at a price of €15,000. Assume that, if used in the project, existing equipment will be worthless in three year’s time. ü Your company’s vice president of operations would supervise production along with her other duties. Her salary is €150,000 per year. (Is this relevant?) ü The cost of producing the chocolate would be €180,000 per year. ü The revenues would be €215,000 per year. ü Starting the contract would require an immediate investment in new net working capital of €15,000, to be realized simultaneously with the acquisition of the new equipment (in t = 0). Project net working capital would increase to €20,000 in year 1, decrease to €10,000 in year 2, and then drop to 0 at the end of the project. ü Your discount rate is 10% and your tax rate is 25% (any capital gain on dismissed fixed assets is also subject to taxation at a rate of 25%). Obtain the project’s incremental free cash flows and compute its NPV....