Question

You are the financial analyst for a tennis racket manufacturer. The company is considering using a graphite–like material in its tennis rackets. The company has estimated the information in the table below about the market for a racket with the new material. The company expects to sell the racket for four years. The equipment required for the project has no salvage value and will be depreciated on a straight-line basis. The required return for projects of this type is 12 percent, and the company has a 34 percent tax rate.

		Pessimistic				Expected				Optimistic
	Market size		118,000				133,000				158,000
	Market share		21	%			24	%			26	%
	Selling price	$	147			$	152			$	158
	Variable costs per unit	$	101			$	96			$	95
	Fixed costs per year	$	962,000			$	917,000			$	887,000
	Initial investment	$	1,260,000			$	1,192,000			$	1,124,000

Calculate the NPV for each case for this project. (A negative answer should be indicated by a minus sign. Do not round intermediate calculations and round your answers to 2 decimal places, e.g., 32.16.)

Pessimistic		$
Expected		$
Optimistic		$

Answer 1

To calculate we need Initial outlay which is given and cashflow of every year but it is not given so we calculate it.

Here selling price, market share, variable cost, fixed cost constant and depreciation straight line so annual cash flow of every same year same so we calculate cashflow and use PVIFA to find present value of all cash flow and deduct intial investment and find the NPV.

To find cashflow we need to calculate market share of unit then we calculate contribution per unit and total contribution then find the earning before depreciation and taxe and find taxabale earning and deduct tax then add depreciation and find cash flow.

We need depreciation in cashflow calculation so first we calculate depreciation.

Calculation of depreciation
Particular	Pessimistic	Expected	Optimistic
Initial Investment	$    1,260,000.00	$ 1,192,000.00	$ 1,124,000.00
Life of project	4	4	4
Depreciation	$       315,000.00	$      298,000.00	$      281,000.00

Calculation of Cash flow
Particular	Pessimistic	Expected	Optimistic
Market Size	118000	133000	158000
Market share	21%	24%	26%
Unit sold	24780	31920	41080
Calculate contribution
Selling price	$              147.00	$              152.00	$              158.00
Less : Veriable Cost	$              101.00	$                96.00	$                95.00
Contribution	$                46.00	$                56.00	$                63.00
Total Contribution	$ 1,139,880.00	$ 1,787,520.00	$ 2,588,040.00
Less Fixed Cost	$      962,000.00	$      917,000.00	$      887,000.00
Earning before depre & tax	$      177,880.00	$      870,520.00	$ 1,701,040.00
Less : Depreciation	$      315,000.00	$      298,000.00	$      281,000.00
Earning before tax	$   (137,120.00)	$      572,520.00	$ 1,420,040.00
Less: Tax @ 34%	$      (46,620.80)	$      194,656.80	$      482,813.60
Earning after tax	$      (90,499.20)	$      377,863.20	$      937,226.40
Add : Depreciation	$        43,878.40	$   (183,206.40)	$   (454,412.80)
Net Cash Flow	$      (46,620.80)	$      194,656.80	$      482,813.60

Now we fing the present value of all future cashinflow using PVIFA.

Calculation of Cash flow
Particular	Pessimistic	Expected	Optimistic
Net Cash Flow	$       (46,620.80)	$      194,656.80	$      482,813.60
PVIFA @12% for 4-Years	3.0373	3.0373	3.0373
Present value of all cashinflow	$     (141,601.36)	$      591,231.10	$ 1,466,449.75
Less : initial Outflow	$    1,260,000.00	$ 1,192,000.00	$ 1,124,000.00
NPV	- $1,401,601.36	- $600,768.90	$      342,449.75