Question

Suppose that Calloway golf would like to capitalize on Phil Michelson winning the Open Championship in 2013 by releasing a new putter. The new product will require new equipment for $419,159.00 that will be depreciated using the 5-year MACRS schedule. The project will run for 2 years with the following forecasted numbers:

	Year 1	Year 2
Putter price	$64.17	$64.17
Units sold	19,136.00	11,665.00
COGS	41.00% of sales	41.00% of sales
Selling and Administrative	18.00% of sales	18.00% of sales

Calloway has a 15.00% cost of capital and a 40.00% tax rate. The firm expects to sell the equipment after 2 years for a NSV of $135,832.00.

a) What is the project cash flow for year 2? (include the terminal cash flow here)

b) What is the NPV of the project?

Answer 1

Time line		0	1	2
Cost of new machine		-419159
=Initial Investment outlay		-419159
5 years MACR rate			20.00%	32.00%	48.00%	0.00%
Unit sales			19136	11665
Profits	=no. of units sold * (sales price - variable cost)		724494.7	441640.4
-Depreciation	=Cost of machine*MACR%		-83831.8	-134130.88	201196.32	=Salvage Value
=Pretax cash flows			640662.9	307509.52
-taxes	=(Pretax cash flows)*(1-tax)		384397.74	184505.712
+Depreciation			83831.8	134130.88
=after tax operating cash flow			468229.54	318636.592
+Proceeds from sale of equipment after tax	=selling price* ( 1 -tax rate)			81499.2
+Tax shield on salvage book value	=Salvage value * tax rate			80478.528
=Terminal year after tax cash flows				161977.728
Total Cash flow for the period		-419159	468229.54	480614.32	a.
Discount factor=	(1+discount rate)^corresponding period	1	1.15	1.3225
Discounted CF=	Cashflow/discount factor	-419159	407156.12	363413.474
NPV=	Sum of discounted CF=	351410.596	=b.

Where variable unit cost = selling price*(1-COGS%age-selling & administrative %age)