A company XYZ is considering manufacturing a product in space. The project lifet

Question

A company XYZ is considering manufacturing a product in space. The project lifetime is 10 years and has the following consecutive phases: Phase 1 (years 1 to 3): The engineering design and development requires 3 years. No production is done during this period Phase 2 (years 4 to 10): to launch the spacecraft into orbit, operate the equipment from the ground by remote control, and recover the spacecraft with the product. This phase is completed in one year, and will be repeated for the next 6 years for a total of 7 launches. All costs are paid at the end of each year. The minimum attractive rate of return is i=25%   

What is the present worth of all disbursements and receipts during the life time of the project, evaluated at the beginning of the first year, if the project has the following costs:

Phase 1 labor $2500000 (per year paid at the end of each year)

Phase 1 Material $730000 (paid at the end of the first year only

Phase 2 -years 4 to 10, all costs are paid at the end of each year and include:

Launch $7100000

Insurance $640000

Labor $1900000

Material $740000

The project makes an annual income of $12500000 as a result of sales in phase 2.

Hint: The present value of the net cash flow of phase 2, evaluated at the beginning of first year, must be greater than the sum of the present worth of labor and material costs of phase 1, also evaluated at the beginning of first year. The difference would be the answer to this problem. Make sure to include the sign (-) if the answer is negative.

Remember, if the present worth of all disbursements and receipts is positive, the company will make at least 25% annual return on this investment.

Explanation / Answer

PV of costs incurred in Phase I:

labor = 2,500,000*pvifa(25,3) = 2,500,000 * 1.9520 = $4,880,000

material = 730000/1.25 = $584,000

total pv = $5,464,000

PV of cost incurred in Phase II:

costs = 103,80,000*pvifa(25,7)*pvif(25,3) = 10,380,000*3.1611*0.5120 = $16,799,856

PV of receipts in Phase II:

12,500,000*3.1611*0.5120 = $20,231,040

Present worth of all receipts and disbursements = $20,231,040 - $4,880,000 - $16,799,856 = -$1,448,816.

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