VIETNAM NATIONAL UNIVERSITY HCMC INTERNATIONAL UNIVERSITY Studenr PART 11: PROBL
ID: 1171043 • Letter: V
Question
VIETNAM NATIONAL UNIVERSITY HCMC INTERNATIONAL UNIVERSITY Studenr PART 11: PROBLEM-SOLVING (60 POINTS) Problem 1: 30 points Truman Electronics introduci food items 80% faster than conventional microwave ovens. The company's CFO has collected the following intormation about the proposed product. manufactures a variety of household appliances. The company is considering ng a new microwave oven. The unique feature of this oven is that it is capable of cooking .The project has an anticipated economic life of 3 years. The company will have to purchase a new production facility to produce the ovens which will require an immediate outlay of $6 million. The production facility will be depreciated on a straight-line basis over 3 years to zero. Truman Electronics plans to sell the production facility to a competitor for S50,000 at the end of the 3-year period. If the company goes ahead with the proposed project, it will require an immediate increase in net working capital of $200,000. The net working capital will be recovered after the project is completed. . Anticipated sales are 1,000,000 units in the first year; 900,000 units in the second year; 900,000 units in the third year based on a sale price of S11 per unit. . The cost of producing each unit is S8.50 .If the project is accepted, the firm will need to hire an additional manager with an annual salary of $80,000. Last year, a market research study for the new product cost S1.5 million. The company's interest expense each year will be S3.5 million. The company's cost of capital (i.e., the required rate of return on this project) is 12%. The company's tax rate is 30%. . · What is the project's NPV?Explanation / Answer
The market resarch cost of $1.5 million should be ingnored as it is a sunk cost
We dont require interest expense as it is not a part of operating cash flows
Year 0 cash outflow = initial investment + net working capital
Year 0 cash outflow = 6,000,000 + 200,000 = $6,200,000
Operating cash flows from year 1 to year 3= ( sales - variable costs - fixed costs - depreciation)( 1 - tax) + depreciation
Annual depreciation = 6,000,000 / 3 = 2,000,000
Year 1 operating cash flow =[(1,000,000 * 11) - ( 1,000,000 * 8.5) - 80,000 - 2,000,000] ( 1 - 0.3) + 2,000,000
Year 1 operating cash flow = [11,000,000 - 8,500,000 - 80,000 - 2,000,000](0.7) + 2,000,000
Year 1 operating cash flow = $2,294,000
Year 2 operating cash flow =[(900,000 * 11) - ( 900,000 * 8.5) - 80,000 - 2,000,000] ( 1 - 0.3) + 2,000,000
Year 2 operating cash flow = [9,900,000 - 7,650,000 - 80,000 - 2,000,000](0.7) + 2,000,000
Year 2 operating cash flow = $2,119,000
Year 3 operating cash flow =[(900,000 * 11) - ( 900,000 * 8.5) - 80,000 - 2,000,000] ( 1 - 0.3) + 2,000,000
Year 3 operating cash flow = [9,900,000 - 7,650,000 - 80,000 - 2,000,000](0.7) + 2,000,000
Year 3 operating cash flow = $2,119,000
Year 3 non-operating cash flow = sales + net working capital - tax( sales price - book value)
Year 3 non-operating cash flow = 50,000 + 200,000 - 0.3(50,000 - 0)
Year 3 non-operating cash flow = $235,000
Total year 3 cash flow = 2,119,000 + 235,000 = 2,354,000
NPV = present value of cash inflows - present value of cash out flows
NPV = -6,200,000 + 2,294,000 / ( 1 + 0.12)1 + 2,119,000 / ( 1 + 0.12)3 + 2,354,000 / ( 1 + 0.12)3
NPV = -787,001.18
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