1. Walmart is considering investing $3 million in an automatic sewing machine to
ID: 2648761 • Letter: 1
Question
1. Walmart is considering investing $3 million in an automatic sewing machine to produce a newly designed line of dresses The dresses will be priced at$300 andmanagement expects to sell 12,000 per year for six years. There is, however, some uncertainty about production costs associated with the new machine. The production department has estimated operating costs at 70% ofrevenues, but senior management realizes that this figure could tum outto be as low as 65% or as high as 75%. The new machine will be depreciated at a rate of $300,000 per yearfor six years (straight line, zero s Walmart's cost of capitalis 15% alvage andits marginal tax rate is 30%. Calculate a point estimate along with best and worst case scenarios for the project's NPV. 70%3 Cash flow in vears 1-5 Revenues Operating costs Depreciation EBT impact Tax impaci Add back depreciation Cash flow Best Point Estimate WorstExplanation / Answer
Particulars Amount Cost of the new machine $3,000,000 Selling Price of the dress $300 No: of units expected to be produced 12000 Probability of operating costs 70%, 65%, 75% Depreciation per year $300,000 Particulars 65% 70% 75% Revenues (12000*300) $3,600,000.00 $3,600,000.00 $3,600,000.00 Less: Operating Costs 65% of Revenue $2,340,000.00 70% of Revenue $2,520,000.00 75% of Revenue $2,700,000.00 Less: Depreciation $300,000.00 $300,000.00 $300,000.00 Earning Before Tax $960,000.00 $3,300,000.00 $3,300,000.00 Less: Tax @30% $288,000.00 $990,000.00 $990,000.00 Earning After Tax $672,000.00 $2,310,000.00 $2,310,000.00 Add: Depreciation $300,000.00 $300,000.00 $300,000.00 Cash flow $972,000.00 $2,610,000.00 $2,610,000.00 At 65% of operating costs Year Cash flows Present Value factor @15% Present Value 1 $972,000.00 0.8696 $845,217.39 2 $972,000.00 0.7561 $734,971.64 3 $972,000.00 0.6575 $639,105.78 4 $972,000.00 0.5718 $555,744.15 5 $972,000.00 0.4972 $483,255.79 6 $972,000.00 0.4323 $420,222.42 Total $3,678,517.18 Less: Initial Investment $3,000,000.00 NPV $678,517.18 At 70% of operating costs Year Cash flows Present Value factor @15% Present Value 1 $2,610,000.00 0.8696 $2,269,565.22 2 $2,610,000.00 0.7561 $1,973,534.97 3 $2,610,000.00 0.6575 $1,716,117.37 4 $2,610,000.00 0.5718 $1,492,275.97 5 $2,610,000.00 0.4972 $1,297,631.28 6 $2,610,000.00 0.4323 $1,128,375.03 Total $9,877,499.83 Less: Initial Investment $3,000,000.00 NPV $6,877,499.83 At 75% of operating costs Year Cash flows Present Value factor @15% Present Value 1 $2,610,000.00 0.8696 $2,269,565.22 2 $2,610,000.00 0.7561 $1,973,534.97 3 $2,610,000.00 0.6575 $1,716,117.37 4 $2,610,000.00 0.5718 $1,492,275.97 5 $2,610,000.00 0.4972 $1,297,631.28 6 $2,610,000.00 0.4323 $1,128,375.03 Total $9,877,499.83 Less: Initial Investment $3,000,000.00 NPV $6,877,499.83
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