OCF = (Sales – Costs)(1 – T) + Depreciation(T)
OCF = ($2,270,000 – 1,260,000)(1 – 0.35) + 0.35($2,460,000/3)
OCF = $943,500
3.
Cochrane, Inc., is considering a new three-year expansion project that requires an initial fixed asset investment of
$2.37 million. The fixed asset will be depreciated straight-line to zero over its three-year tax life, after which time it
will be worthless. The project is estimated to generate $2,240,000 in annual sales, with costs of $1,230,000. Assume
the tax rate is 35 percent and the required return on the project is 10 percent.
Required:
What is the project’s NPV?
(Do not include the dollar sign ($). Negative amount should be indicated by a minus
sign. Enter your answer in dollars, not millions of dollars (e.g., 1,234,567). Round your answer to 2 decimal
places (e.g., 32.16).)
Net present value
$
Explanation:
Using the tax shield approach to calculating OCF (Remember the approach is irrelevant; the final answer will be the
same no matter which of the four methods you use.), we get:
OCF = (Sales – Costs)(1 – T) + Depreciation(T)
OCF = ($2,240,000 – 1,230,000)(1 – 0.35) + 0.35($2,370,000/3)
OCF = $933,000
Since we have the OCF, we can find the NPV as the initial cash outlay, plus the PV of the OCFs, which are an