Question

PT Sepatu Top is now a leading producer of shoes in the Sumatera region. The management of PT Sepatu Top is now analyzing the investments in a machine to produce specialized football shoes. The specialized football shoes would be manufactured in a building owned by the firm. The building and the land can be sold for Rp 8.000.000.000,- after taxes.

Suppose that you were the CFO of PT Sepatu Top and working on an analysis of the proposed new product. You outline the following assumptions: The cost of the machine is Rp3.000.000.000,- and it is expected to last five years. At the end of five years, the machine will be sold at a price estimated to be Rp 200.000.000,- The specialized football shoes would be produced in the next five consecutive years as follows: 10.000 units, 12.000 units, 15.000 units, 10.000 units, and 7.000 units. The price of the specialized football shoes in the first year will be Rp 800.000,- and is expected to increase at 4 percent per year.

Because of the rapid increase price of the raw materials, the management expects that the production cash outflows will be increased at 12 percent per year. First-year production costs will be Rp 450.000,- per unit. The management of PT Sepatu Top determines that initial investment (at Year 0) in net working capital of Rp 1.000.000.000,- is required. Subsequently, net working capital at the end of each year will be equal to 10 percent of sales for that year. In the final year of the project, net working capital will decline to zero as the project is wound down. PT Sepatu Top applies the straight line depreciation method.

The appropriate incremental corporate tax rate in the specialized football shoe project is 28 percent. According to Badan Pusat Statistik, the annual inflation rate is expected at 8 percent per annum.

Required:

Evaluate the proposal of PT Sepatu Top in producing specialized football shoes! Your analysis MUST include NPV calculations, as well as the necessary assumptions and brief explanation. Any UNCLEAR calculation will result in ZERO marks.

Answer 1

PT Sepatu Top Evaluation of proposal for Specialised Football Shoes
	Particulars	Year 0	Year 1	Year 2	Year 3	Year 4	Year 5
	Cost of Investment
	Machinery	(3,000,000)
	Land And Building	-	-	-	-	-	-
	Working Capital	(1,000,000)	(800,000)	(998,400)	(1,297,920)	(899,891)	4,996,211
	Production ( Units)		10,000	12,000	15,000	10,000	7,000
	Selling Price / Unit		800	832	865	900	936
	Sales		8,000,000	9,984,000	12,979,200	8,998,912	6,551,208
Less :
	Production Cost / Unit		450	504	564	632	708
	Production Cost		4,500,000	6,048,000	8,467,200	6,322,176	4,956,586
	Gross Profit		3,500,000	3,936,000	4,512,000	2,676,736	1,594,622
Less :	Depreciation		200,000	200,000	200,000	200,000	200,000
	Profit Before Tax		3,300,000	3,736,000	4,312,000	2,476,736	1,394,622
Less :	Tax @ 28%		924,000	1,046,080	1,207,360	693,486	390,494
	Profit After Tax		2,376,000	2,689,920	3,104,640	1,783,250	1,004,128
Add :	Depreciation		200,000	200,000	200,000	200,000	200,000
Add:	Sale Procceds of :
	Machinery						2,000,000
	Land and Building						8,000,000
	Cash Flow After Tax	(4,000,000)	1,776,000	1,891,520	2,006,720	1,083,359	16,200,339
	PVF @ 8%	1	0.9259	0.8573	0.7938	0.7350	0.6806
	Discounted Cash Flow	(4,000,000)	1,644,444	1,621,674	1,592,999	796,301	11,025,679
	Net Present Value of Discounted Cash Flow	12,681,097
In given projections, the proposal can be carried forward considering postive discounted cash flow.
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