20% EXAMINATION

AAM Inc. is considering an investment in a project that requires an initial investment of $600,000
to produce and market a new chemical used in farming. This investment is comprised of $250,000
in working capital plus $350,000 in plant and equipment.
Sales revenues are expected to be $1,100,000 in 2016 and are expected to grow at an annual rate
of 10% throughout the five-year planning period.
■ Cost of goods sold is equal to 60% of sales, while operating expenses before depreciation are
10% of sales revenues plus a fixed component equal to $100,000 per year
■ A 30% tax rate is used in the analysis
■ The firm uses straight-line depreciation, with plant and equipment assumed to have a ten-year
life and a zero salvage value
■ For 2016 through 2020, net working capital requirements are expected to equal 25% of
product’s sales. Capital equipment (CAPEX) is assumed to be $330,000 in 2015 and zero in all
future years.
a/ Calculate the NPV and IRR of the project. Should the project be accepted?
b/ Draw the graph exhibit the relationship between the discount rate and NPV?
c/ Perform breakeven analysis for sales growth rate, operating expense, tax rate, and cost of
goods sold.
d/ Perform scenario analysis for the most 2 sensitivities variables that you found in question c.
Assuming that the value of variables are +/-10% under good and bad scenarios.