With the growing popularity of casual surf print clothing, two recent MBA gradua
ID: 2748897 • Letter: W
Question
With the growing popularity of casual surf print clothing, two recent MBA graduates decided to broaden this casual surf concept to encompass a “surf lifestyle for the home.” With limited capital, they decided to focus on surf print table and floor lamps to accent people’s homes. They projected unit sales of these lamps to be 8,500 in the first year, with growth of 7 percent each year for the next five years. Production of these lamps will require $50,000 in networking capital to start. Total fixed costs are $110,000 per year, variable production costs are $22 per unit, and the units are priced at $50 each. The equipment needed to begin production will cost $190,000. The equipment will be depreciated using the straight-line method over a five-year life and is not expected to have a salvage value. The effective tax rate is 40 percent, and the required rate of return is 24 percent. What is the NPV of this project? (Do not round intermediate calculations and round your answer to 2 decimal places. (e.g., 32.16))
Explanation / Answer
Initail Investment required in the Project = Cost of Equipment + Working Capital Required
= 190,000 + 50,000
= 240,000
..
Annual Depreciation = 190,000/5
= $38,000
..
Units Sold in :-
a)Year -1 = 8500 units
b)Year-2 = 8500*1.07 = 9095 units
c)Year-3 = 9095*1.07 = 9732 units
d)Year-4 = 9732*1.07 = 10413 units
e)Year-5 = 10413*1.07 = 11142 units
Cash Flow for the First year = [(50-22)*8500 - 110,000 - 38000]*0.6 + 38000
= [238000 - 110,000 - 38,000]*0.6 + 38,000
= $92000
..
Cash Flow for the Second year = [(50-22)*9095 - 110,000 - 38000]*0.6 + 38000
= [254,660 - 110,000 - 38,000]*0.6 + 38,000
= $101,996
..
Cash Flow for the Third year = [(50-22)*9732 - 110,000 - 38000]*0.6 + 38000
= [272,496 - 110,000 - 38,000]*0.6 + 38,000
= $112,698
..
Cash Flow for the Fourth year = [(50-22)*10413 - 110,000 - 38000]*0.6 + 38000
= [291,564 - 110,000 - 38,000]*0.6 + 38,000
= $124,138
..
Cash Flow for the Fifth year = [[(50-22)*11142 - 110,000 - 38000]*0.6 + 38000] + Recovery of working Capital
=[ (311,976 - 110,000 - 38,000)*0.6 + 38,000] + 50,000
= 136,386 + 50,000
= $186,386
..
..
NPV from The Project = P.V of Cash Inflows - P.V of Cash Ouflow
= [92000/1.24 + 101,996/1.24^2 + 112,698/1.24^3 + 124,138/1.24^4 + 186,386/1.24^5 ] - 240,000
= 315,722 - 240,000
= $75,722 .. ANS
...
The project is Viable
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