Question

This case continues following the new project of the WePPROMOTE Company, that you and your partner own. WePROMOTE is in the promotional materials business. The project being considered is to manufacture a unique case for smartphones. The case is very durable, attractive and fits virtually all models of smartphone. It will also have the logo of your client, a prominent, local company and is planned to be given away at public relations events by your client.

As we know from prior cases involving this company, more and more details of the project become apparent and with more precision and certainty.

The following are the final values to the data that you have been estimating up to this point:

- You can borrow funds from your bank at 3%.

- The cost to install the needed equipment will be $105,000 and this cost is incurred prior to any cash is received by the project.

- The gross revenues from the project will be $25,000 for year 1, then $27,000 for years 2 and 3. Year 4 will be $28,000 and year 5 (the last year of the project) will be $23,000.

- The expected annual cash outflows (current project costs) are estimated at being $13,000 for the first year, then $12,000 for years 2, 3, and 4. The final year costs will be $10,000.

- Your tax rate is 30% and you plan to depreciate the equipment on a straight-line basis for the life of the equipment.

- After 5 years the equipment will stop working and will have a residual (salvage) value of $5,000).

- The discount rate you are assuming is now 7%.

The Tasks:

1. Perform the final NPV calculations and provide a narrative of how you calculated the computations and why.

2. Then provide a summary conclusion on whether you should continue to pursue this business opportunity.

Answer 1

	Year 0	1	2	3	4	5
Cost to install equipment	-105000
Revenues		25000	27000	27000	28000	23000
Less: Project costs		-13000	-12000	-12000	-12000	-10000
Less: Depreciation		-21000	-21000	-21000	-21000	-21000
EBT		-9000	-6000	-6000	-5000	-8000
Tax		0	0	0	0	0
EAT		-9000	-6000	-6000	-5000	-8000
Add back depn.		21000	21000	21000	21000	21000
Operating cash flow		12000	15000	15000	16000	13000
After-tax salvage(5000*(1-30%))						3500
Net annual cash flows	-105000	12000	15000	15000	16000	16500
PV F at 7%	1	0.93458	0.87344	0.81630	0.76290	0.71299
PV at 7%	-105000	11214.95	13101.58	12244.47	12206.32	11764.27
NPV	-44468.4

1. Annual after-tax(NIL tax as EBT is NEGATIVE) operating cash flows ,ie. Adding back non-cash expense of depreciation are arrived at --- & added to the capital expenditure & after-tax salvage in Year 5.

Net annual cash flows for years 0-5 are then discounted at the given rate of 7% & net present value of all the cash flows was found out.

2. This business opportunity cannot be proceeded with, as the NPV, ie net present value of the cash inflows & the outflows is negative & will not add any value to the business.