Question

Finco Inc. manufactures financial calculators. The company is deciding whether to introduce a new calculator. This calculator will sell for $85. The company feels that sales will be 13,500, 13,900, 14,000, 14,200, and 13,000 units per year for the next 5 years. Variable costs will be 30% of sales, and fixed costs are $250,000 per year. The firm hired a marketing team to analyze the viability of the product and the marketing analysis cost $1,000,000. The company plans to use a vacant warehouse to manufacture and store the financial calculators. Based on a recent appraisal the warehouse and the property is worth $2.2 million on an after tax basis. If the company does not sell the property today then it will sell the property 5 years from today at the currently appraised value. This project will require an injection of net working capital at the on set of the project in the amount of $50,000. This net working capital will be fully recovered at the end of the project. The firm will need to purchase some equipment in the amount of $500,000 to produce the new calculators. The machine has a 7 year life and will be depreciated using the straight-line method. At the end of the project, the anticipated market value of the machine is $150,000. The firm requires an 8% return on its investment and has a tax rate of 21%. 1.Calculate the sunk cost of the project. (Enter a positive value and round to the nearest dollar) 2.Calculate the opportunity cost of the project. (Enter a positive value and round to the nearest dollar) 3.Calculate the net working capital injection at the beginning of the project. (Enter a positive value and round to the nearest dollar) 4.Calculate the book value of the machine at the end of year 5. (Round to two decimals) 5.Calculate the depreciation expense at the end of year 2. (Round to two decimals) 6.Calculate the after tax salvage value at the end of year 5. (Round to two decimals) 7.Calculate the operating cash flows at the end of year 1. (Round to two decimals) 8.Calculate the initial cash outflow (e.g. the time 0 cash flow). (Enter a negative value and round to two decimals) 9.Calculate the cash flow from assets at the end of year 5. (Round to two decimals) 10.Calculate the net present value for the project. (Round to 2 decimals)

Answer 1

Given Data (i)calculator Selling price = $85 (ii) sales for next 5 year = 13,500, 13,900, 14,000, 14,200, and 13,000 units per year (iii)Variable costs =30% of sales (iv) fixed costs = $250,000 per year (v) marketing analysis cost = $1,000,000 (vi) warehouse and the property use = $2.2 million on an after tax basis. (vii )net working capital = $50,000. (viii) equipment cost =  $500,000 to produce the new calculators. (ix) machine life = 7 year life & depreciated =straight-line method. (x) end anticipated market value of the machine = $150,000. (xi)return on its investment = 8% (xii) tax rate =21%.

		CASH FLOW
	Coloumn-->	A	B	C	D	E	F
Row	Year	0	1	2	3	4	5
1	Initial Cost -Purchase some equipment	-500000
2	Net working capital outflow	-50000
3	Sales (units * $85)		1147500	1181500	1190000	1207000	1105000
4	Variable Cost (30% of sales)		-344250	-354450	-357000	-362100	-331500
5	Fixed Cost		-250000	-250000	-250000	-250000	-250000
6	Depreciation		-70000	-70000	-70000	-70000	-70000
7			483250	507050	513000	524900	453500
8	tax at 21%		101482.50	106480.50	107730	110229	95235
9	After Tax		381767.5	400569.5	405270	414671	358265
10	Cash Flow (After Tax + Depriciation)		451767.5	470569.5	475270	484671	428265
11	Salvage Value						150000
12	Release of Working Capital						50000
13	NET TOTAL cash flow	-550000	451767.5	470569.5	475270	484671	628265
14	PV factor at 8%	1	0.5555	0.3086	0.1715	0.0953	0.0529
15	PV	-550000	250956.85	145217.75	81508.81	46189.15	33285.22
16	NPV	7157.78

(1) sunk cost of the project :

Sunk cost means a cost which is incurred by entity and it is no longer to be recover

here, a marketing team cost of $1,000,000. to analyze the viability of product and analysis of market is term as Sunk Cost

(2)opportunity cost :

When anything alternative selected and due to this any profit can be lost = opportunity cost

Here, company uses a vacant warehouse with appraisal value ofs worth $2.2 million on an after tax basis to manufacture and store the financial calculators. therefore Opportunity cost is $2.2 million

(3) net working capital injection at the beginning of the project.

net working capital injection at the beginning of the project = $50000

(4) book value of the machine at the end of year 5.

= [initial cost $500000] - [depriciation for 5 year @ $62500] = 187500

(5)depreciation expense at the end of year 2.

70000+70000=140000

(6)after tax salvage value at the end of year 5.

150000 -tax@21% =31500

(7)operating cash flows at the end of year 1.

=451767.5 (please refer above table with row 13 coloumn B)

(8) initial cash outflow

Initial Cash Outflow = $550000 (please refer above table with row 13 coloumn A)

(9)cash flow from assets at the end of year 5.

-550000+

451767.5+

470569.5+

475270+

484671+

628265 =

=1960543

(10)net present value for the project

As per table = 7157.78