Capital Budget Example

Capital Budget Example

Capital Budget Example


ABC Corporation is considering the introduction of a new product.
The project will last five years and then be terminated.
The company’s marginal tax rate is 30%.
The company’s cost of capital is 15%.
The cost of the new plant and equipment for the project is $5,000,000.
Shipping and Installation costs are $100,000.
Projected sales are:
Year Units Sold
1. 50,000
2. 60,000
3. 75,000
4. 65,000
5. 50,000


Sales price per unit: $100 per unit in years 1-4, $90 per unit in year 5.
Variable cost per unit: $50 per unit.
Annual fixed costs: $100,000.
Initial Working Capital Required is $100,000 to start the project.
For each year, the total investment in net working capital will be equal to 10% of the dollar value of sales for that year. Thus, the investment in working capital will increase in years 1-3, and decrease in years 4-5. All working capital is liquidated at the termination of the project at the end of year 5.
Depreciation method: Use simplified straight-line depreciation over five years. It is assumed the plant and equipment will have no salvage value at the end of the project.




| |Year |0 |1 |2 |3 |4 |
|Revenue | | |5,000,000 |6,000,000 |7,500,000 |6,500,000 |
|Net Working Capital Required | |500,000 |600,000 |750,000 |650,000 |450,000 |
|Liquidation of Working Capital |  |  |  |  |  |(450,000) |
|Change in Working Capital | |100,000 |400,000 |100,000 |150,000 |(100,000) |
|Capital...