Question

Consider a project to supply your foster home with 55,000 gallons of hand sanitizer

annually for the children. You estimate that you will need an initial $4,200,000

in terms of investment to get the project started. The project will last for 5 years.

The project will bring in annual cash flows of $1,375,000. It also estimates a

salvage value of $300,000 after dismantling costs.

Your cost of capital is 13 percent. Assume no taxes or depreciation.

Required:

a) What is the NPV of the sanitizer project? Should you pursue this

project?

b) Suppose you believe that there is a best case scenario where initial

investment could be 15% lower with salvage value and revenue being 10%

higher, what would be the NPV under this scenario?

c) In the worst case scenario, you expect annual cash inflows to be 10% lower,

salvage value to be 12% lower and initial investment to be 10% higher.

Calculate the NPV under this worst case scenario. Would you still pursue

the project?

d) You just received additional information that suggests that your base case

(answer to a), best case (b) and worst case (c) scenarios have probabilities of

0.35, 0.35 and 0.30 respectively. What will be the expected NPV of the

sanitizer project. What about the standard deviation of the sanitizer project?

Do you think the project is still viable?

Answer 1

Based on the given data, pls find below workings and answers:

a) NPV of the Project is positive GHC 780289 and hence this project is recommended for investment.

b) Best case scenario NPV is GHC 1908317;

c) Worst case scenario NPV is -ve GHC 140622; Based on this case, the project is not recommended for investment.

d) Based on the given probabilities, the expected NPV is GHC 898825 and Standard Deviation is 828087. This project is still recommeded for investment.

Detailed calculations and Formulae as below:

Year 1 Year 2 Year 3 Year 4 Year 5 Terminal Year Project (GH) - Base Case Cost of Machine Salvage Value - Expected as sold Year 0 -42,00,000 3,00,000 -42,00,000 Cash Flows (Net Income + Depreciation) Discounting Factor Discounted Cash Flow Cumulative Discounted Cash Flow 13,75,000 0.8850 12,16,814 -29,83,186 13,75,000 0.7831 10,76,827 -19,06,359 13,75,000 0.6931 9,52,944 -9,53,415 13,75,000 0.6133 8,43,313 -1,10,102 13,75,000 0.5428 7,46,295 6,36,193 3,00,000 0.4803 1,44,096 7,80,289 -42,00,000 -42,00,000 NPV - Base Case 7,80,289 Discounting Factor 13.00% Year 1 Year 2 Year 3 Year 4 Year 5 Terminal Year Project (GH) - Best Case Cost of Machine Salvage Value - Expected as sold Year o -35,70,000 3,30,000 Cash Flows (Net Income + Depreciation) Discounting Factor Discounted Cash Flow Cumulative Discounted Cash Flow -35,70,000 1 -35,70,000 -35,70,000 15,12,500 0.8850 13,38,496 -22,31,504 15,12,500 0.7831 11,84,509 -10,46,995 15,12,500 0.6931 10,48,238 1,243 15,12,500 0.6133 9,27,645 9,28,888 15,12,500 0.5428 8,20,924 17,49,812 3,30,000 0.4803 1,58,505 19,08,317 NPV - Best Case 19,08,317 Discounting Factor 13.00% Year 1 Year 2 Year 3 Year 4 Year 5 Terminal Year Project (GH) - Worst Case Cost of Machine Salvage Value - Expected as sold Year 0 -46,20,000 2,64,000 Cash Flows (Net Income + Depreciation) Discounting Factor Discounted Cash Flow Cumulative Discounted Cash Flow -46,20,000 1 -46,20,000 -46,20,000 12,37,500 0.8850 10,95,133 -35,24,867 12,37,500 0.7831 9,69,144 -25,55,723 12,37,500 0.6931 8,57,650 -16,98,074 12,37,500 0.6133 7,58,982 -9,39,092 12,37,500 0.5428 6,71,665 -2,67,426 2,64,000 0.4803 1,26,804 -1,40,622 NPV - Worst Case -1,40,622 Discounting Factor 13.00% Base Case 7,80,289 0.35 Worst Case -1,40,622 0.3 Scenarios NPV Probability Expected NPV Deviation Squared Deviation Squared Deviation * Probability Variance Standard Deviation of NPV Best Case 19,08,317 0.35 8,98,825 10,09,492 10,19,07,40,67,618 3,56,67,59,23,666 6,85,72,91,85,612 8,28,087.67 -1,18,537 14,05,09,89,399 4,91,78,46,290 -10,39,448 10,80,45,13,85,522 3,24,13,54,15,656