Crisps has received an order for 13500 bags of potato chips from BigBag. Crisps

Question

Crisps has received an order for 13500 bags of potato chips from BigBag. Crisps views BigBag to be a long-term customer and believes they will continue to place the same order year after year forever. Crisps sells its large bags of potato chips for $1.95 each, and calculates its internal cost for the product at $0.75 each.

Market research estimates that there is a 30% chance that BigBag will pay in full what it owes. Crisps uses a discount rate of 6.25% for all NPV analysis.

Based on this information, calculate the NPV of this credit decision?
$

Place your answer to the nearest dollar. Do not use a Dollar sign or commas within your answer.

Explanation / Answer

Total Value of sale = 13,500 * 1.95 = 26,325 each year

Since there is only a 30% chance tha BigBag will pay in full, the expected revenue in the current year (Year 0) will be = 0.3*26,325 = 7,897.5

Form year 1 onwards the its revenues will be 26,325 a year (Full)

Now the net cost of producing it in each year = 0.75 *13,500 = 10,125

So, Net profit for year 0 = 7,897.5 -10,125 = -2,227.5 (negative)

The net profit from year 1 = 26,325 -10,125 = 16,200

This will happen for perpetuity

So PV of a perpetuity = = Net profit/discount rate = 16,200/0.0625 = 259,200

So NPV = 259,200 - 2227.5 = 256,972.5

NPV =$256,973 (Rounded to nearesr dollar)

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