Mannufacturing Co is considering a 6 year project. The project requires an initial investment of
$5,000,000 to buy new equipment. The equipment will be depreciated at a CCA rate of 50% per year. An
initial investment of $200,000 will be made in net working capital, which will be fully recovered
whenever the project ends. The company believes it can generate $2,650,000 in pretax revenues per year
and total pretax operating cost would be $1,000,000 per year. The tax rate is 40% and the required rate of
return is 12%. The market value of the equipment over the life of the project is given below:
Year 1 2 3 4 5:
$4,500,000 3,500,000 3,000,000 500,000 0
a. What is the NPV of the project? Assume asset pool is open.
b. Now compute the project NPV assuming the project is abandoned after one year, after three years.
What economic life for this project maximizes its value to the firm? Any gain or loss due to selling the
equipment for other than the book value will create taxable gain/loss.