Question

With the growing popularity of casual surf print clothing, two recent MBA graduates decided to broaden this causal 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 10,900 in the first year, with growth of 8 percent each year for the next five years. Production of these lamps will require $63,000 in net working capital to start. Total fixed costs are $152,000 per year, variable production costs are $20 per unit, and the units are priced at $63 each. The equipment needed to begin production will cost $620,000. The equipment will be depreciated using the straight-line method over a 5-year life and is not expected to have a salvage value. The tax rate is 24 percent and the required rate of return is 16 percent. What is the NPV of this project?

Answer 1

Tax rate		24%
Calculation of annual depreciation
Depreciation		Year-1	Year-2	Year-3	Year-4	Year-5	Total
Cost		$    620,000.00	$     620,000.00	$      620,000.00	$ 620,000.00	$     620,000.00
Dep Rate		20.00%	20.00%	20.00%	20.00%	20.00%
Depreciation		$    124,000.00	$     124,000.00	$      124,000.00	$ 124,000.00	$     124,000.00	$ 620,000.00
Calculation of after-tax salvage value
Cost of machine			$     620,000.00
Depreciation			$     620,000.00
WDV			$                      -
Sale price			$                      -
Profit/(Loss)			$                      -
Tax			$                      -
Sale price after tax			$                      -
Calculation of annual operating cash flow
	Year-0	Year-1	Year-2	Year-3	Year-4	Year-5
Units		10,900	11,772	12,714	13,731	14,829
Sale Price		$                    63	$                     63	$                     63	$                  63	$                     63
variable cost		$                    20	$                     20	$                     20	$                  20	$                     20
Sale		$    686,700.00	$     741,636.00	$      800,966.88	$ 865,044.23	$     934,247.77
Less: Operating Cost		$    218,000.00	$     235,440.00	$      254,275.20	$ 274,617.22	$     296,586.59
Contribution		$    468,700.00	$     506,196.00	$     546,691.68	$ 590,427.01	$     637,661.18
Less: Fixed Cost		$    152,000.00	$     152,000.00	$      152,000.00	$ 152,000.00	$     152,000.00
Less: Depreciation as per table given above		$    124,000.00	$     124,000.00	$      124,000.00	$ 124,000.00	$     124,000.00
Profit before tax		$    192,700.00	$     230,196.00	$     270,691.68	$ 314,427.01	$     361,661.18
Tax		$      46,248.00	$       55,247.04	$        64,966.00	$    75,462.48	$       86,798.68
Profit After Tax		$    146,452.00	$     174,948.96	$     205,725.68	$ 238,964.53	$     274,862.49
Add Depreciation		$    124,000.00	$     124,000.00	$      124,000.00	$ 124,000.00	$     124,000.00
Cash Profit after-tax		$    270,452.00	$     298,948.96	$     329,725.68	$ 362,964.53	$     398,862.49
Calculation of NPV
						16.00%
Year		Capital	Working capital	Operating cash	Annual Cash flow	PV factor	Present values
0		$   (620,000.00)	$      (63,000.00)		$(683,000.00)	1.0000	$(683,000.00)
1				$      270,452.00	$ 270,452.00	0.8621	$ 233,148.28
2				$      298,948.96	$ 298,948.96	0.7432	$ 222,167.78
3				$      329,725.68	$ 329,725.68	0.6407	$ 211,241.29
4				$      362,964.53	$ 362,964.53	0.5523	$ 200,462.08
5		$                     -	$       63,000.00	$      398,862.49	$ 461,862.49	0.4761	$ 219,898.74
					Net Present Value		$ 403,918.16