A is planning on developing a new product. It has a 55% chance of being successf

Question

A is planning on developing a new product. It has a 55% chance of being successful and a 45% chance of failing. Based on the information below, should A test the new product? Show your work.

Successful Test:

Year 1 cost: $1,200,000

Year 2 through 5:

Revenue: $6,000,000

Variable Costs: $2,000,000

Fixed Costs: $1,100,000

Depreciation: $200,000

Tax Rate: 30%

WACC: 10%

Unsuccessful Test:

Year 1 cost: $1,200,000

Year 2 through 5:

Revenue: $3,500,000

Variable Costs: $2,000,000

Fixed Costs: $1,100,000

Depreciation: $200,000

Tax Rate: 30%

WACC: 10%

Based upon the above information, if revenue drops 10%, what is the percentage change in the Net Present Value (NPV)? Show your work.

Explanation / Answer

Dear student thankyou for using chegg. Please refer the following solution and gives thumbsup. Calculation of NPV Successful test Particulars Year 1 Year 2 year 3 year 4 year 5 Revenue($) - 6000000 6000000 6000000 6000000 Less: variable cost - -2000000 -2000000 -2000000 -2000000 fixed cost - -1100000 -1100000 -1100000 -1100000 depreciation - -200000 -200000 -200000 -200000 Profit before tax - 2700000 2700000 2700000 2700000 Less: tax@30% - 810000 810000 810000 810000 Profit after tax - 1890000 1890000 1890000 1890000 Add: depreciation - 200000 200000 200000 200000 cashflows($) -1200000 2090000 2090000 2090000 2090000 PVF@10% 0.909 0.826 0.751 0.683 0.621 Present value -1090800 1727100 1570091 1427355 1297596 NPV($)(-1090800+1727100+1570091+1427355+1297596) 4931342 unSuccessful test Particulars Year 1 Year 2 year 3 year 4 year 5 Revenue($) - 3500000 3500000 3500000 3500000 Less: variable cost - -2000000 -2000000 -2000000 -2000000 fixed cost - -1100000 -1100000 -1100000 -1100000 depreciation - -200000 -200000 -200000 -200000 Profit before tax - 200000 200000 200000 200000 Less: tax@30% - 60000 60000 60000 60000 Profit after tax - 140000 140000 140000 140000 Add: depreciation - 200000 200000 200000 200000 cashflows($) -1200000 340000 340000 340000 340000 PVF@10% 0.909 0.826 0.751 0.683 0.621 Present value -1090800 280963.6 255421.5 232201.4 211092.1 NPV($)(-1090800+280963.6+255421.5+232201.4+211092.1) -111121 combined NPV($) 2662234 (4931342*0.55+(-111121)*0.45) Calculation of NPV(when revenue reduces by 10%) Successful test Particulars Year 1 Year 2 year 3 year 4 year 5 Revenue($) - 5400000 5400000 5400000 5400000 Less: variable cost - -2000000 -2000000 -2000000 -2000000 fixed cost - -1100000 -1100000 -1100000 -1100000 depreciation - -200000 -200000 -200000 -200000 Profit before tax - 2100000 2100000 2100000 2100000 Less: tax@30% - 630000 630000 630000 630000 Profit after tax - 1470000 1470000 1470000 1470000 Add: depreciation - 200000 200000 200000 200000 cashflows($) -1200000 1670000 1670000 1670000 1670000 PVF@10% 0.909 0.826 0.751 0.683 0.621 Present value -1090800 1380027 1254570 1140518 1036835 NPV($)(-1090800+1380027+1254570+1140518+1036835) 3721151 unSuccessful test Particulars Year 1 Year 2 year 3 year 4 year 5 Revenue($) - 3150000 3150000 3150000 3150000 Less: variable cost - -2000000 -2000000 -2000000 -2000000 fixed cost - -1100000 -1100000 -1100000 -1100000 depreciation - -200000 -200000 -200000 -200000 Profit before tax - -150000 -150000 -150000 -150000 Less: tax@30% - -45000 -45000 -45000 -45000 Profit after tax - -105000 -105000 -105000 -105000 Add: depreciation - 200000 200000 200000 200000 cashflows($) -1200000 95000 95000 95000 95000 PVF@10% 0.909 0.826 0.751 0.683 0.621 Present value -1090800 78504.55 71367.77 64879.79 58981.63 NPV($)(-1090800+78504.55+71367.77+64879.79+58981.63) -817066 combined NPV($) 1678953 (3721151*0.55+(-817066*0.45)) Percentage change of NPV -36.93% (1678953-2662234)/2662234*100)

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