Sovrano Café is considering a major expansion of its business. The details of the proposed expansion project are summarized below: The company will have to purchase $900,000 equipment, that require installation cost and transportation cost equal $100,000.
The sources of fund will be 250,000 loan from bank at interest 8% and the remaining will be from equity.
The company will pay interest equal to $120,000 each year.
The project has an economic life of 4 years.
The cost can be depreciated using straight line method.
At t = 0, the project requires that increase Account receivable by $80,000 and inventory by $120,000 while Account payable will increase by $160,000.
The project’s salvage value at the end of 4 years is expected to be Zero.
The company forecasts that the project will generate $725,000 in sales the first 2 years and $650,000 in sales during the last 2 years
Each year the project’s operating cost excluding depreciation is expected to be 50% of sales revenue.
The company’s tax rate is 40%
The bond yield premium in Egypt was 18% at that time
The company already pays marketing expenses equal 80,000.
The government treasury bond earn interest equal to 5%
Requirements:
Using the Net present value, what do you recommend?
What is your expectation about the country risk premium of Egypt next year? And why?