BMT has developed a new product. It can go into production for an initial invest
ID: 2713809 • Letter: B
Question
BMT has developed a new product. It can go into production for an initial investment of $4,000,000. The equipment will be depreciated using straight-line depreciation over 4 years to a value of zero. The firm believes that net working capital at each date will equal 25 percent of next year’s forecast sales. The firm estimates that variable costs are equal to 40% of sales and fixed costs are $500,000 per year. Sales forecasts in dollars are below. The project will come to an end after 4 years, when the product becomes obsolete. The firm’s tax rate is 35 percent, and the discount rate is 9 percent. Calculate the NPV.
Year 0 1 2 3 4
Sales forecast (in $): 0 2,800,000 3,400,000 3,700,000 4,200,000
perform sensitivity analysis on the following assumptions and find the revised NPV
(a) sales are 10% lower each year than predicted above
(b) the discount rate is 12 percent
Explanation / Answer
INITIAL INVESTMENT=$40,00,000
DEPRECIATION=$40,00,000/4=$10,00,000
TAX=35%
DISCOUNT RATE=9%
CALCULATION OF NPV
YEAR 1 2 3 4 SALES($) 28,00,000 34,00,000 37,00,000 42,00,000 LESS:VARIABLE COST@40%OF SALES($) 11,20,000 13,60,000 14,80,000 16,80,000 CONTRIBUTION($) 16,80,000 20,40,000 22,20,000 25,20,000 LESS:FIXED COST($) 5,00,000 5,00,000 5,00,000 5,00,000 LESS:DEPRECIATION 10,00,000 10,00,000 10,00,000 10,00,000 EBIT($)(1) 1,80,000 5,40,000 7,20,000 10,20,000 EARNING AFTER TAX(1)*(1-0.35) 1,17,000 3,51,000 4,68,000 6,63,000 ADD:DEPRECIATION 5,00,000 5,00,000 5,00,000 5,00,000 CASH FLOWS (2) 6,17,000 8,51,000 9,68,000 11,63,000 NET WORKING CAPITAL 25% OF NEXT YEARS FORECAST SALES FOR YEAR 0=$7,00,000 8,50,000 9,25,000 10,50,000 CHANGE IN WORKING CAPITAL($)(3) 1,50,000 75,000 1,25,000 0 FREE CASH FLOWS($)(2)-(3) 4,67,000 7,76,000 8,43,000 11,63,000 PV FACTOR @9% 0.917 0.842 0.772 0.708 PRESENT VALUE($) 4,28,239 6,53,392 6,50,796 8,23,404 TOTAL PRESENT VALUE($) 25,55,831 LESS:INITIAL COST($) (40,00,000) NPV (14,44,169)Related Questions
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