Chicago Valve Company

Explain the inputs into

1) The net initial investment outlay at year 0?

The initial investment at year 0 is $200,000 which includes taxes and delivery, and the

cost to install the equipment $12,500. Therefore the total net cost of initial investment

outlay at year 0 is $212,500.

2) The depreciation tax savings in each year of the projects economic life?

The depreciation tax savings in each year of the project’s economic life will show how

much the tax savings will be depreciated each year using the MACRS method.

3) The projects incremental cash flows? These cash flows are those that are relevant to

the valuation of the project. In this case it is depreciation. Using the MACRS we can

determine for how much the project will be depreciated and what the net cash flows will

be after tax and after depreciation. This cash flows are the sum of the depreciation tax

saving and the after-tax cost saving.

This shows the company’s profit for each of the eight years.

4) What is the project’s NPV? Explain the economic rationale behind the NPV. Could the

NPV of this particular project be different for Lone Star Petroleum Company than for one

of Chicago Valve’s other potential customers?

From the calculations, the NPV is ($17301). (revise) The NPV process helps investors

determine whether or not projects are profitable. There is a very important concept in

finance: time value of money. One dollar today is worth more than 1 dollar in the future.

Since the net cash flows here are future projections, it is necessary to bring the value of

the investment to its present value. If the present value is positive, the project will be

profitable; therefore, it can be approved. If the NPV is negative, the project should be

rejected since the costs of investment exceed the returns.

3. Calculate the proposed project’s IRR. Explain the rationale for using the IRR to

evaluate capital investment projects. Could the IRR for this project differ for Lone Star

versus for another...