With the growing popularity of casual surf print clothing, two recent MBA gradua

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 7,200 in the first year, with growth of 6 percent each year for the following four years (Years 2 through 5). Production of these lamps will require $37,000 in networking capital to start. Total fixed costs are $97,000 per year, variable production costs are $15 per unit, and the units are priced at $45 each. The equipment needed to begin production will cost $177,000. 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 38 percent, and the required rate of return is 30 percent. What is the NPV of this project?

Explanation / Answer

Initial outflow working capital              37,000 Equipment          1,77,000 Total          2,14,000 Year 0 1 2 3 4 5 NPV Initial Outflow        -2,14,000 Sales              7,200              7,632              8,090              8,575              9,090 Sales Price                    45                    45                    45                    45                    45 Sales value        3,24,000        3,43,440        3,64,050        3,85,875        4,09,050 Variable Cost (P.U.)                    15                    15                    15                    15                    15 Total Variable Cost        1,08,000        1,14,480        1,21,350        1,28,625        1,36,350 Fixed Cost            97,000            97,000            97,000            97,000            97,000 BTCF        1,19,000        1,31,960        1,45,700        1,60,250        1,75,700 Depn          -35,400          -35,400          -35,400          -35,400          -35,400 EBT            83,600            96,560        1,10,300        1,24,850        1,40,300 Tax at 38%            31,768            36,693            41,914            47,443            53,314 PAT            51,832            59,867            68,386            77,407            86,986 Depn            35,400            35,400            35,400            35,400            35,400 ATCF            87,232            95,267        1,03,786        1,12,807        1,22,386 FCF        -2,14,000            87,232            95,267        1,03,786        1,12,807        1,22,386 Disc. Fact 1 0.76923077 0.59171598 0.45516614 0.3501278 0.26932907 Dis. FCF        -2,14,000            67,102            56,371            47,240            39,497            32,962      29,172 NPV of the project is $ 29,172

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