Question
In: Finance
Refer to excel data given below. Modify model for projection of free cash flows from the...
- Refer to excel data given below.
Modify model for projection of free cash flows from the Home Net project along the following dimensions:
- Assume the equipment needed for the project is depreciated according to MACRS 5-year depreciation schedule:
5-year MACRS:
Year 0: 20%
Year 1: 32.0%
Year 2: 19.2%
Year 3: 11.52%
Year 4: 11.52%
Year 5: 5.76%
- The equipment is sold at the end of year 4 for $0.5 m
- One of every five customers expected to buy a Home Net device would have bought a Cisco router if Home Net devices were not available
- In order to maintain constant number of units (100,000/year) sold over the duration of the project Cisco is planning to offer an introductory price of $250/unit in the first year, and going to reduce the price to $230/unit in the fourth year. In the second and the third year, as customers get to appreciate the new device, Cisco is hoping to be able to sell the gadgets for $260 per unit
- Assume that the Net working capital is recovered as soon as the production is over (at the end of year 4)
- Estimate NPV of the project assuming that rwacc= 12%
- Change your assumption about cost of capital and try several values above and below the initial value of 12%. Construct NPV-sensitivity-to-rwaccgraph (rwaccvalues must be on the X-axis, corresponding values of NPV on the Y-axis)
Data for the question:
| Year | 0 | 1 | 2 | 3 | 4 | 5 | |
| Price per unit | 260 | 260 | 260 | 260 | 260 | 260 | |
| # of units | 0 | 100,000.00 | 100,000.00 | 100,000.00 | 100,000.00 | 0 | |
| Expected loss in sales of routers (%%) | 0 | 0.25 | 0.25 | 0.25 | 0.25 | 0.25 | |
| Price per unit (router) | 100 | 100 | 100 | 100 | 100 | 100 | |
| Cost of Goods Sold Router/unit | 60 | 60 | 60 | 60 | 60 | 60 | |
| Cost of Goods Sold/unit | 110 | 110 | 110 | 110 | 110 | 110 | |
| Marketing Costs/year | 0 | 2,800,000.00 | 2,800,000.00 | 2,800,000.00 | 2,800,000.00 | 0 | |
| Opportunity Cost (Lab) | 0 | 200,000.00 | 200,000.00 | 200,000.00 | 200,000.00 | 0 | |
| New Equipment/year | 7,500,000.00 | 0 | 0 | 0 | 0 | 0 | |
| Depreciation schedule | 0 | 0.2 | 0.2 | 0.2 | 0.2 | 0.2 | |
| Software Development: | |||||||
| Engineers | 50 | 0 | 0 | 0 | 0 | 0 | |
| Cost/engineer | 200,000.00 | 0 | 0 | 0 | 0 | 0 | |
| Design and Engineering | 5,000,000.00 | 0 | 0 | 0 | 0 | 0 | |
| Tax Rate | 0.4 | 0.4 | 0.4 | 0.4 | 0.4 | 0.4 | |
| HomeNet's Net Working Capital Requirements | |||||||
| Cash | 0 | 0 | 0 | 0 | 0 | 0 | |
| Inventory | 0 | 0 | 0 | 0 | 0 | 0 | |
| Receivables (15% Sales) | 0 | 3,525,000.00 | 3,525,000.00 | 3,525,000.00 | 3,525,000.00 | 0 | |
| Payables (15% COGS) | 0 | 1,425,000.00 | 1,425,000.00 | 1,425,000.00 | 1,425,000.00 | 0 | |
| NWC | 0 | 2,100,000.00 | 2,100,000.00 | 2,100,000.00 | 2,100,000.00 | 0 | |
| Change in NWC | 0 | 2,100,000.00 | 0 | 0 | 0 | -2,100,000.00 | |
| Sales | 0 | 23,500,000.00 | 23,500,000.00 | 23,500,000.00 | 23,500,000.00 | 0 | |
| COGS | 0 | 9,500,000.00 | 9,500,000.00 | 9,500,000.00 | 9,500,000.00 | 0 | |
| Gross Profit | 0 | 14,000,000.00 | 14,000,000.00 | 14,000,000.00 | 14,000,000.00 | 0 | |
| Selling, General, Admin. Expnenses | 0 | 3,000,000.00 | 3,000,000.00 | 3,000,000.00 | 3,000,000.00 | 0 | |
| Research and Development | 15,000,000.00 | 0 | 0 | 0 | 0 | 0 | |
| Depreciation | 0 | 1,500,000.00 | 1,500,000.00 | 1,500,000.00 | 1,500,000.00 | 1,500,000.00 | |
| EBIT | -15,000,000.00 | 9,500,000.00 | 9,500,000.00 | 9,500,000.00 | 9,500,000.00 | -1,500,000.00 | |
| Income Tax | -6,000,000.00 | 3,800,000.00 | 3,800,000.00 | 3,800,000.00 | 3,800,000.00 | -600,000.00 | |
| NI (Unlevered) | -9,000,000.00 | 5,700,000.00 | 5,700,000.00 | 5,700,000.00 | 5,700,000.00 | -900,000.00 | |
| Plus: Depreciation | 0 | 1,500,000.00 | 1,500,000.00 | 1,500,000.00 | 1,500,000.00 | 1,500,000.00 | |
| Less:Capital Expenditures (Equipm.) | 7,500,000.00 | 0 | 0 | 0 | 0 | 0 | |
| Less: change in NWC | 0 | 2,100,000.00 | 0 | 0 | 0 | -2,100,000.00 | |
| FCF | -16,500,000.00 | 5,100,000.00 | 7,200,000.00 | 7,200,000.00 | 7,200,000.00 | 2,700,000.00 | |
| Cost of capital | 0.12 | ||||||
| PV of CFS | -16,500,000.00 | 4,553,571.43 | 5,739,795.92 | 5,124,817.78 | 4,575,730.16 | 1,532,052.51 | |
| NPV | 5,025,967.81 |
Solutions
Expert Solution
Following table gives the values mentioned in the question:
| Year | 0 | 1 | 2 | 3 | 4 | 5 |
| Price per unit | 250 | 260 | 260 | 230 | 0 | |
| # of units | 0 | 1,00,000.00 | 1,00,000.00 | 1,00,000.00 | 1,00,000.00 | 0 |
| Expected loss in sales of routers (%%) | 0% | 25% | 25% | 25% | 25% | 25% |
| Price per unit (router) | 100 | 100 | 100 | 100 | 100 | 100 |
| # of units (router) | 0 | 20000 | 20000 | 20000 | 20000 | 0 |
| Cost of Goods Sold Router/unit | 60 | 60 | 60 | 60 | 60 | 60 |
| Cost of Goods Sold/unit | 110 | 110 | 110 | 110 | 110 | 110 |
| Marketing Costs/year | 0 | 28,00,000.00 | 28,00,000.00 | 28,00,000.00 | 28,00,000.00 | 0 |
| Opportunity Cost (Lab) | 0 | 2,00,000.00 | 2,00,000.00 | 2,00,000.00 | 2,00,000.00 | 0 |
| New Equipment/year | 75,00,000.00 | 0 | 0 | 0 | 0 | 0 |
| Depreciation schedule | 20% | 32% | 19% | 12% | 12% | 6% |
| Software Development: | ||||||
| Engineers | 50 | 0 | 0 | 0 | 0 | 0 |
| Cost/engineer | 2,00,000.00 | 0 | 0 | 0 | 0 | 0 |
| Design and Engineering | 50,00,000.00 | 0 | 0 | 0 | 0 | 0 |
| Tax Rate | 40% | 40% | 40% | 40% | 40% | 40% |
The following table give HomeNet's Net Working Capital Requirements:
| Year | 0 | 1 | 2 | 3 | 4 | 5 |
| Cash | - | - | - | - | - | - |
| Inventory | - | - | - | - | - | - |
| Receivables (15% Sales) | - | 37,50,000 | 39,00,000 | 39,00,000 | 34,50,000 | - |
| Payables (15% COGS) | - | 14,25,000 | 14,25,000 | 14,25,000 | 14,25,000 | - |
| NWC | - | 23,25,000 | 24,75,000 | 24,75,000 | 20,25,000 | - |
| Change in NWC | - | 23,25,000 | 1,50,000 | - | -4,50,000 | -20,25,000 |
The following table give HomeNet's Profit & loss statement:
| Year | 0 | 1 | 2 | 3 | 4 | 5 |
| Sales | - | 2,70,00,000 | 2,80,00,000 | 2,80,00,000 | 2,50,00,000 | - |
| COGS | - | 1,22,00,000 | 1,22,00,000 | 1,22,00,000 | 1,22,00,000 | - |
| Gross Profit | - | 1,48,00,000 | 1,58,00,000 | 1,58,00,000 | 1,28,00,000 | - |
| Selling, General, Admin. Expnenses | - | 30,00,000 | 30,00,000 | 30,00,000 | 30,00,000 | - |
| Research and Development | 1,50,00,000 | - | - | - | - | - |
| Depreciation | 15,00,000 | 24,00,000 | 14,40,000 | 8,64,000 | 8,64,000 | 4,32,000 |
| EBIT | -1,65,00,000 | 94,00,000 | 1,13,60,000 | 1,19,36,000 | 89,36,000 | -4,32,000 |
| Income Tax | - | 37,60,000 | 45,44,000 | 47,74,400 | 35,74,400 | - |
| NI (Unlevered) | -1,65,00,000 | 56,40,000 | 68,16,000 | 71,61,600 | 53,61,600 | -4,32,000 |
The NPV calculation and its sensitivity are as follows:
| Plus: Depreciation | 15,00,000 | 24,00,000 | 14,40,000 | 8,64,000 | 8,64,000 | 4,32,000 |
| Less:Capital Expenditures (Equipm.) | 75,00,000 | - | - | - | - | - |
| Less: change in NWC | - | 23,25,000 | 1,50,000 | - | -4,50,000 | -20,25,000 |
| FCF | -2,25,00,000 | 57,15,000 | 81,06,000 | 80,25,600 | 66,75,600 | 20,25,000 |
| Cost of capital | 12% | |||||
| PV of CFS | -2,25,00,000 | 51,02,679 | 64,62,054 | 57,12,464 | 42,42,464 | 11,49,039 |
| NPV | 1,68,700 |
The Sensitivity of NPV to the Cost of Capital
| Cost of Capital | NPV |
| 12.00% | 1,68,700 |
| 10.00% | 12,41,270 |
| 10.25% | 11,02,809 |
| 10.50% | 9,65,633 |
| 10.75% | 8,29,726 |
| 11.00% | 6,95,073 |
| 11.25% | 5,61,659 |
| 11.50% | 4,29,468 |
| 11.75% | 2,98,487 |
| 12.00% | 1,68,700 |
| 12.25% | 40,093 |
| 12.50% | -87,349 |
| 12.75% | -2,13,637 |
| 13.00% | -3,38,788 |
| 13.25% | -4,62,814 |
| 13.50% | -5,85,728 |
| 13.75% | -7,07,544 |
| 14.00% | -8,28,274 |
The below graph is a graphical representation of the NPV sensitivity:
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