Question

You are CEO of Rivet? Networks, maker of? ultra-high performance network cards for gaming? computers, and you are considering whether to launch a new product. The? product, the Killer? X3000, will cost $903,000 to develop up front? (year 0), and you expect revenues the first year of $805,000?, growing to $1.42 million the second? year, and then declining by 45% per year for the next 3 years before the product is fully obsolete. In years 1 through? 5, you will have fixed costs associated with the product of $110,000 per? year, and variable costs equal to 50% of revenues.???

a. What are the cash flows for the project in years 0 through? 5?

b. Plot the NPV profile for this investment using discount rates from? 0% to? 40% in? 10% increments.

c. What is the? project's NPV if the? project's cost of capital is 10.1%?? d. Use the NPV profile to estimate the cost of capital at which the project would become? unprofitable; that? is, estimate the? project's IRR.

Answer 1

Years	1	2	3	4	5
Sales	805000	1420000	781000	429550	236253
Variable cost	402500	710000	390500	214775	118126
Depreciation	180600	180600	180600	180600	180600
Fixed cost	110000	110000	110000	110000	110000
Net Profit	111900	419400	99900	-75825	-172474
Add: Depreciation	180600	180600	180600	180600	180600
Net Cash Flow	292500	600000	280500	104775	8126

b.

Years	Cash Flows	PVF (10%)	PV of Cash flows	PVF (20%)	PV of Cash flows	PVF (30%)	PV of Cash flows	PVF (30%)	PV of Cash flows
0	-903000	1	-903000.00	1.000	-903000.00	1.000	-903000.00	1.000	-903000.00
1	292500	0.909	265909.09	0.833	243750.00	0.769	204545.45	0.714	174107.14
2	600000	0.826	495867.77	0.694	416666.67	0.592	293412.88	0.510	212585.03
3	280500	0.751	210743.80	0.579	162326.39	0.455	95923.44	0.364	59156.85
4	104775	0.683	71562.73	0.482	50528.07	0.350	25056.10	0.260	13152.87
5	8126	0.621	5045.76	0.402	3265.76	0.269	1358.97	0.186	607.22
NPV =			146129.16		-26463.12		-282703.15		-443390.89

c.

Years	Cash Flows	PVF (10.1%)	PV of Cash flows
0	-903000	1.000	-903000.00
1	292500	0.908	265667.57
2	600000	0.825	494967.42
3	280500	0.749	210170.09
4	104775	0.681	71303.10
5	8126	0.618	5022.89
NPV =			144131.07

By interpolating 10% and 20% from the NPV profile, IRR = 18.26%.