Question

McGilla Golf is evaluating a new line of golf clubs. The clubs will sell for $920 per set and have a variable cost of $410 per set. The company has spent $137,500 for a marketing study that determined the company will sell 46,500 sets per year for seven years. The marketing study also determined that the company will lose sales of 8,700 sets of its high-priced clubs. The high-priced clubs sell at $1,420 and have variable costs of $550. The company also will increase sales of its cheap clubs by 11,300 sets. The cheap clubs sell for $410 and have variable costs of $140 per set. The fixed costs each year will be $9,250,000. The company has also spent $975,000 on research and development for the new clubs. The plant and equipment required will cost $28,350,000 and will be depreciated on a straight-line basis to a zero salvage value. The new clubs also will require an increase in net working capital of $2,290,000 that will be returned at the end of the project. The tax rate is 24 percent and the cost of capital is 15 percent. Calculate the payback period. (Do not round intermediate calculations and round your answer to 3 decimal places, e.g., 32.161.) Calculate the NPV. (Do not round intermediate calculations and round your answer to 2 decimal places, e.g., 32.16.) Calculate the IRR. (Do not round intermediate calculations and enter your answer as a percent rounded to 2 decimal places, e.g., 32.16.)

Answer 1

Profit=New line sales*(selling price-variable cost)-decrease in High price line sales*(selling price

-variable cost)+increase in cheap line sales*(selling price-variable cost)

=46500*(920-410)-8700*(1420-550)+11300*(410-140)

=19197000

Time line		0	1	2	3	4	5	6	7
Cost of new machine		-29325000
Initial working capital		-2290000
=Initial Investment outlay		-31615000
										100.00%
Profits			19197000	19197000	19197000	19197000	19197000	19197000	19197000
Fixed cost			-9250000	-9250000	-9250000	-9250000	-9250000	-9250000	-9250000
-Depreciation	Cost of equipment/no. of years		-4189286	-4189286	-4189286	-4189286	-4189286	-4189286	-4189285.71	3.725E-09	=Salvage Value
=Pretax cash flows			5757714.3	5757714.3	5757714.3	5757714.3	5757714.3	5757714.3	5757714.286
-taxes	=(Pretax cash flows)*(1-tax)		4375862.9	4375862.9	4375862.9	4375862.9	4375862.9	4375862.9	4375862.857
+Depreciation			4189285.7	4189285.7	4189285.7	4189285.7	4189285.7	4189285.7	4189285.714
=after tax operating cash flow			8565148.6	8565148.6	8565148.6	8565148.6	8565148.6	8565148.6	8565148.571
reversal of working capital									2290000
+Tax shield on salvage book value	=Salvage value * tax rate								8.9407E-10
=Terminal year after tax cash flows									2290000
Total Cash flow for the period		-31615000	8565148.6	8565148.6	8565148.6	8565148.6	8565148.6	8565148.6	10855148.57

Project
Year	Cash flow stream	Cumulative cash flow
0	-31615000	-3.2E+07
1	8565148.571	-2.3E+07
2	8565148.571	-1.4E+07
3	8565148.571	-5919554
4	8565148.571	2645594
5	8565148.571	11210743
6	8565148.571	19775891
7	10855148.57	30631040
Payback period is the time by which undiscounted cashflow cover the intial investment outlay
this is happening between year 3 and 4
therefore by interpolation payback period = 3 + (0-(-5919554.29))/(2645594.29-(-5919554.29))
3.69 Years
Project
Discount rate	0.15
Year	0	1	2	3	4	5	6	7
Cash flow stream	-31615000	8565149	8565149	8565149	8565148.6	8565149	8565149	10855149
Discounting factor	1	1.15	1.3225	1.520875	1.7490063	2.011357	2.313061	2.66002
Discounted cash flows project	-31615000	7447955	6476483	5631724	4897151.5	4258393	3702950	4080852
NPV = Sum of discounted cash flows
NPV Project =	4880508.96
Where
Discounting factor =	(1 + discount rate)^(Corresponding period in years)
Discounted Cashflow=	Cash flow stream/discounting factor