You are exploring the possibility of starting a project involving production of an assortment of spicy curried pickles. You had approached a marketing consultant to conduct market research and do a 1-year feasibility study for $25,000. The recommendations of the study are positive, and you have decided to begin work on the project. You expect the life of the project to be 6 years.
The initial investment in the project is expected to be as follows:
• Land: $150,000
• Buildings: $350,000
• Manufacturing equipment: $250,000
• Net working capital: $40,000
For CCA computation, the buildings belong to asset Class 1 and the manufacturing equipment is in Class 39, with applicable CCA rates of 4% and 25%, respectively. At the end of the project’s economic life, you expect to be able to sell the buildings and land for $450,000 (the value of the land is expected to remain unchanged). The manufacturing equipment is, however, expected to have a salvage value of only $125,000. Net working capital requirements for each year are expected to increase by 10% from the previous year. Your business will be taxed at 35%.
In the first year, you expect to sell 30,000 units of the gourmet pickles in bottled jars. In each sub· sequent year, unit sales are expected to increase by 4%. You have decided to price the pickles at $8.50 for each jar in the first year. You intend to adjust the price in subsequent years to keep up with inflation, which you expect to be about 1.5% per year over the life of the project. Variable costs are expected to be $16,000 in the first year and are expected to grow in proportion to sales in each subsequent year. Fixed costs are estimated at $40,000 per year.
On the basis of your estimates of the cost of financing the project, you have decided that the appropriate discount rate to evaluate the project’s cash flows should be 12%. Conduct an NPV analysis to determine whether your decision to go ahead with the project is correct.