Case Study:
Continuing Case Study 1, assume that you are supposed to execute project 1 which is implementing a new
product to upgrade the current service. Your careful examination reveals following information:
The project lifetime can be extended to 10 years by reinvestment on new equipment at the end of year 5 with
the amount of $10 million. The initial investment remains the same ($25 million), but we decided to use a $10
million loan to cover part of initial investment at the rate of 15% annual interest to be paid back in 10 years.
The total annual benefit per each new customer is $80 in year 1 and will be decreased by 3% every year. Also
the average annual benefit from upgrading customer is $20 for year 1 with 4% decrease every following year.
Initial investment ($25M) includes purchasing some equipment ($15M), the lands for $4M and the buildings
for $6M. The estimated salvage value of equipment purchased at the beginning of project is $3M at the end of
year 10. Also, the estimated salvage value of equipment purchased at the end of year 5 is $4M at the end of
the project and value of the buildings will be $3M. The value of land will increase by 15% at the end of 10
years.
Detail of updated project information over 10 years is provided in table below.
Year 0 1 2 3 4 5 6 7 8 9 10
Investment 25,000,000 0 0 0 0 0 10,000,000 0
Marketing and
operations cost
2,000,000 1,000,000 1,000,000 500,000 500,000 800,000
Decrease by 10% every year
from previous year
Forecasted new
customer acquisition
40,000 35,000 30,000 25,000 20,000 30,000
Decrease by 5% every year
from previous year
Forecasted upgrading
customers
100,000 80,000 60,000 40000 20,000 50,000
Decrease by 5% every year
from previous year
Consider that minimum acceptable rate of return for the first five years is 18% and for next five years is 20%.
Assume that all equipment are eligible for CCA=30% and the building is eligible for CCA=4%. 50% rule
applies for the equipment only. Include disposal tax effect with rate of 40% in your calculations.
Q1: Prepare an income statement including revenues, the operating and marketing costs, depreciation
(Building and the equipment), disposal tax, loan interest payments and any other cost or revenue applicable
for the project life (10 years). Using CRA (Canada Revenue Agency) website the current tax rate for the
province/territory in which your business is located, as well as the current federal tax rate. Do not forget to
include references.
Q2: Prepare the cash flow statement for the life of the project. Is this project an economic project? Answer to
this question by finding NPW of the project. Also, compute the internal rate of return.
Q3: Pick two other provinces/territories with different tax rates (one higher and one lower than yours) and
conclude whether the after-tax effect would be better or worse, comparing NPW of the project in these
provinces/territories. If a higher or lower tax rate than your province does not exist between Canadian
provinces and territories, assume +/- 5% differential.
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