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Per 5 - Total $1,044,400 –$9,423,400 $1,755,600...

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Discussion 6.3 Next, we need to account for the changes in inventory each year. The inventory is a percentage of sales. The way we will calculate the change in inventory is the beginning of period inventory minus the end of period inventory. The sign of this calculation will tell us whether the inventory change is a cash inflow, or a cash outflow. The inventory each year, and the inventory change, will be: Year 1 Year 2 Year 3 Year 4 Year 5 Beginning $728,000 $742,000 $770,000 $812,000 $739,200 Ending 742,000 770,000 812,000 739,200 0 Change –$14,000 –$28,000 –$42,000 $72,800 $739,200 Notice that we recover the remaining inventory at the end of the project. The total cash flows for the project will be the sum of the operating cash flow, the capital spending, and the inventory cash flows, so: Year 1 Year 2 Year 3 Year 4 Year 5 OCF $1,058,400 $1,104,600 $1,797,600 $2,364,600 $1,830,738 Equipment 0 –10,500,000 0 0 5,496,660 Inventory –14,000 –28,000 –42,000 72,800 739,200
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Unformatted text preview: Total $1,044,400 –$9,423,400 $1,755,600 $2,437,400 $8,064,960 The NPV of the project, including the inventory cash flow at the beginning of the project, will be: NPV = –$638,000 + $1,044,400 / 1.14 – $9,423,400 / 1.142 + $1,755,600 / 1.143 + $2,437,400 / 1.144 + $8,064,960 / 1.145 NPV = –$156,055.99 The company should not go ahead with the new table. b. You can perform an IRR analysis, and would expect to find three IRRs since the cash flows change signs three times. c. The profitability index is intended as a “bang for the buck” measure; that is, it shows how much shareholder wealth is created for every dollar of initial investment. In this case, the largest investment is not at the beginning of the project, but later in its life. However, since the future negative cash flow is discounted, the profitability index will still measure the amount of shareholder wealth created for every dollar spent today....
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