CONCH REPUBLIC ELECTRONICS CONCH REPUBLIC ELECTRONICS IS A MID SIZED ELECTRONICS

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CONCH REPUBLIC ELECTRONICS

CONCH REPUBLIC ELECTRONICS IS A MID SIZED ELECTRONICS MANUFACTURER LOCATED IN KEY WEST, FLORIDA. THE COMPANY PRESIDENT IS SHELLEY COUTS, WHO INHERITED THE COMPANY. WHEN IT WAS FOUNDED OVER 70 YEARS AGO, THE COMPANY ORIGINALLY REPAIRED RADIOS AND OTHER HOUSEHOLD APPLIANCES. OVER THE YEARS, THE COMPANY EXPANDED INTO MANUFACTURING AND IS NOW A REPUTABLE MANUFACTURER OF VARIOUS ELECTRONIC ITEMS. JAY MCCANLESS, A RECENT MBA GRADUATE, HAS BEEN HIRED BY THE COMPANY'S FINANCE DEPARTMENT. ONE OF THE MAJOR REVENUE-PRODUCING ITEMS MANUFACTURED BY CONCH REPUBLIC IS A PERSONAL DIGITAL ASSISTANT (PDA). CONCH REPUBLIC CURRENTLY HAS ONE PDA MODEL ON THE MARKET, AND SALES HAVE BEEN EXCELLENT. THE PDA IS A UNIQUE ITEM IN THAT IT COMES IN A VARIETY OF TROPICAL COLORS AND IS PREPROGRAMMED TO PLAY JIMMY BUFFETT MUSIC. HOWEVER, AS WITH ANY ELECTRONIC ITEM, TECHNOLOGY CHANGES RAPIDLY, AND THE CURRENT PDA HAS LIMITED FEATURES IN COMPARISON WITH NEWER MODELS. CONCH REPUBLIC DEVELOPED A PROTOTYPE FOR A NEW PDA THAT HAS ALL THE FEATURES OF THE EXISTING PDA BUT ADDS NEW FEATURES SUCH AS CELL PHONE CAPABILITY. THE COMPANY HAS PERFORMED A MARKETING STUDY TO DETERMINE THE EXPECTED SALES FIGURES FOR THE NEW PDA. CONCH REPUBLIC CAN MANUFACTURE THE NEW PDA FOR $200 EACH IN VARIABLE COSTS. FIXED COSTS FOR THE OPERATION ARE ESTIMATED TO RUN $4.5 MILLION PER YEAR. THE ESTIMATED SALES VOLUME IS 70,000, 80,000, 100,000, 85,000, AND 75,000 PER EACH YEAR FOR THE NEXT FIVE YEARS, RESPECTIVELY. THE UNIT PRICE OF THE NEW PDA WILL BE $340. THE NECESSARY EQUIPMENT CAN BE PURCHASED FOR $16.5 MILLION AND WILL BE DEPRECIATED ON A 5 YEAR STRAIGHT-LINE SCHEDULE. NET WORKING CAPITAL INVESTMENT FOR THE PDAS WILL BE $6,000,000 THE FIRST YEAR OF OPERATIONS. OF COURSE NWC WILL BE RECOVERED AT THE PROJECTS END. CONCH REPUBLIC HAS A 35 PERCENT CORPORATE TAX RATE AND A 12 PERCENT REQUIRED RETURN. SHELLY HAS ASKED JAY TO PREPARE A REPORT THAT ANSWERS THE FOLLOWING

QUESTIONS:

1) WHAT IS THE IRR OF THE PROJECT?

2) WHAT IS THE NPV OF THE PROJECT, BASED ON THE REQUIRED RATE OF RETURN OF 12%?

Explanation / Answer

Initial investment = 16.5 million

Annual depreciation = 16.5/5 = 3.3 million

Contribution per unit = sales price-variable cost = 340-200 = $ 140/unit

So net income for each of 5 years is as follows:

In the above table, pre-tax profit = contribution-fixed cost-depreciation

Operating cashflow = net income+depreciation

Year 0 cashflow = -(16.5 million+6 million) = -22.5 million

Year 5 cashflow also has an incremental cashflow of 6 million, so total year 5 cashflow = 5,055,000+6,000,000 = 11,055,000

So the final cashflows are as below:

a. Let IRR be r

So 22,500,000 = 4,600,000/(1+r)^1 + 5,510,000/(1+r)^2 + 7,330,000/(1+r)^3 + 5,965,000/(1+r)^4 + 11,055,000/(1+r)^5

Solving, we get r = IRR = 14%

b. NPV = - 22,500,000 + 4,600,000/(1+12%)^1 + 5,510,000/(1+12%)^2 + 7,330,000/(1+12%)^3 + 5,965,000/(1+12%)^4 + 11,055,000/(1+12%)^5 = $ 1,280,800

Hope this helped ! Let me know in case of any queries.

Year 1 Year 2 Year 3 Year 4 Year 5 Units 70,000 80,000 100,000 85,000 75,000 Contribution at $140/unit 9,800,000 11,200,000 14,000,000 11,900,000 10,500,000 Fixed costs 4,500,000 4,500,000 4,500,000 4,500,000 4,500,000 Depreciation 3,300,000 3,300,000 3,300,000 3,300,000 3,300,000 Pre-tax profit 2,000,000 3,400,000 6,200,000 4,100,000 2,700,000 Tax @ 35% 700,000 1,190,000 2,170,000 1,435,000 945,000 Net income 1,300,000 2,210,000 4,030,000 2,665,000 1,755,000 Operating cashflow (net income + depreciation) 4,600,000 5,510,000 7,330,000 5,965,000 5,055,000

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