Question

1. Your company wants to launch a new product. The price will be $108 and the projected units sold will be 5,000 each of the next five years and then zero sales after that (i.e. life of five years). Variable costs per unit is $47 and fixed costs will be $36,000 per year. This project will need initial net working capital of $37,000, and NWC will then increase $7,000 per year through the end of year five. At that point 75% of NWC (no tax ramifications) will be returned to the company. Necessary equipment investment will be $900,000 and have a salvage value of 23%, net of tax. The depreciation will be straight-line over the life of this project. Your company’s current debt/equity ratio is 1.15 and this product is in line with the operations of the rest of your company. Your company is in the 21% tax bracket. Your equity investors demand a 13% return and your company’s bonds yield 5.3%. Even though no debt will be used, you still need to use your company’s WACC. Price is accurate within 5%, units sold within 3%, and variable & fixed costs within 2%. What is the NPV in the worst-case scenario?

2.In 2020 and 2019, your cash was 4,563 and 3,597, your accounts receivables were 7,531 and 6,423, and your inventory was 10,235 and 11,563. Similiarly, in 2020 and 2019 your accounts payable was 8,423 and 5,789, and your other current liabilities were 7,413 and 10,356. Lastly from the balance sheet, in 2020 and 2019 your net fixed assets were 74,562 and 71,246.

In 2020 your net sales were 111,425, your costs of good sold was 38,999, rent was 48,543, and depreciation was 2,015. You paid interest of 1,728 and your tax rate was 20.36%.

What is cash flow from assets (i.e. free cash flow) in 2020?

Answer 1

Answer to 1. NPV calculatoin in the worst case scenario -

Price going down by 5%, new price is (1-5%) x 108

Units will go down by 3%, new units is (1-3%) x 5000

VC & FC will increase by 2%, new VC is (1+2%) x 47 and new FC is (1+2%) x 36000

Calculation of WACC

Debt equity ratio is 1.15, thus debt is 1.15 and the equity is 1 so the total capital is 1.15+1 = 2.15

Therefore, weight of debt = 1.15/2.15 and weight of equity = 1/2.15

WACC = weight of debt x debt cost (1-tax rate) + weight of equity x cost of equity = (1.15/2.15) x 5.3x (1-0.21) +(1/2.15) x 13 = 8.3

NPV calculation is as -

Particulars	Remark	oca	1	2	3	4	5
Units Sold	(1-3%) x 5000		4850	$            4,850.00	$            4,850.00	$            4,850.00	$            4,850.00
SP	(1-5%) x 108		$                102.60	$                102.60	$                102.60	$                102.60	$                102.60
Sales	SP x Units		$      4,97,610.00	$      4,97,610.00	$      4,97,610.00	$      4,97,610.00	$      4,97,610.00
VC per unit	(1+2%) x 47		$                  47.94	$                  47.94	$                  47.94	$                  47.94	$                  47.94
Total VC	Units x vc per unit		$      2,32,509.00	$      2,32,509.00	$      2,32,509.00	$      2,32,509.00	$      2,32,509.00
Fixed cost	(1+2%) x 36000		$          36,720.00	$          36,720.00	$          36,720.00	$          36,720.00	$          36,720.00
EBITDA	Sales-Total VC-Fixed Cost		$      2,28,381.00	$      2,28,381.00	$      2,28,381.00	$      2,28,381.00	$      2,28,381.00
Depreciation	900000/5 = 180000		$      1,80,000.00	$      1,80,000.00	$      1,80,000.00	$      1,80,000.00	$      1,80,000.00
EBT	EBITDA-Depreciation		$          48,381.00	$          48,381.00	$          48,381.00	$          48,381.00	$          48,381.00
Tax	21% x EBT		$          10,160.01	$          10,160.01	$          10,160.01	$          10,160.01	$          10,160.01
EAT	EBT-Tax		$          38,220.99	$          38,220.99	$          38,220.99	$          38,220.99	$          38,220.99
Depreciation	Added back as non cash		$      1,80,000.00	$      1,80,000.00	$      1,80,000.00	$      1,80,000.00	$      1,80,000.00
OCF	EAT+Depreciation		$      2,18,220.99	$      2,18,220.99	$      2,18,220.99	$      2,18,220.99	$      2,18,220.99
FCINV	Given	$    -9,00,000.00
WCINV	Given	$       -37,000.00	$          -7,000.00	$          -7,000.00	$          -7,000.00	$          -7,000.00
WCINV Recovery	75% x (37000+7000x5)					$          48,750.00
Salvage value	23% x (900000)					$      2,07,000.00
FCF	OCF+FCINV+WCINV+WCINV recovery+Salvage value	$    -9,37,000.00	$      2,11,220.99	$      2,11,220.99	$      2,11,220.99	$      4,66,970.99	$      2,18,220.99
Discount factor Formula	at WACC	1/(1+0.0828607)^0	1/(1+0.0828607)^1	1/(1+0.0828607)^2	1/(1+0.0828607)^3	1/(1+0.0828607)^4	1/(1+0.0828607)^5
Discount factor	Calculated using above formula	1	0.92348	0.85281	0.78756	0.72729	0.67164
DCF	FCF x Discount Factor	$    -9,37,000.00	$      1,95,058.32	$      1,80,132.42	$      1,66,348.66	$      3,39,624.91	$      1,46,566.11
NPV = sum of all DCF	$90,730

Answer to 2

. Income statement is as -

Sales	111,426
Cost of good sold	38,999
Rent	48,543
Depreciation	2,015
EBIT	21,868
Interest	1,728
Income before taxes	20,140
Taxes	4,101
Net income	16,039

Operating Cash Flow = EBIT – Taxes + Depreciation = 21,868 - 4,101 + 2,015 = 19,782

Net Capital Spending = Change in net fixed assets + Depreciation
Net Capital Spending = 74,562 - 71,246 + 2,015 = 5,331

Current Assets = Cash + Accounts Receivable + Inventory = 4,563 + 7,531 + 10,235 = 22,329

Current Assets, 2019 = 3,597 + 6,423 + 11,563 = 21,583

Current Liabilities = Accounts Payable + Other Current Liabilities

Current Liabilities, 2020 = 8,423 + 7,413 = 15,836

Current Liabilities, 2019 = 5,789 + 10,356 = 16,145

Net Working Capital = Current Assets – Current Liabilities

Net Working Capital, 2020 = 22,329 - 15,836 = 6,493

Net Working Capital, 2019 = 21,583 - 16,145 = 5,438

Change in Net Working Capital = 6,493 - 5,438 = 1,055

Cash Flow from Assets = Operating Cash Flow - Net Capital Spending - Change in Net Working Capital = 19,782 - 5,331 - 1,055 = $13,396