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In: Finance
Your company has been approached to bid on a contract to sell 4,950 voice recognition (VR)...
Your company has been approached to bid on a contract to sell 4,950 voice recognition (VR) computer keyboards a year for four years. Due to technological improvements, beyond that time they will be outdated and no sales will be possible. The equipment necessary for the production will cost $3.4 million and will be depreciated on a straight-line basis to a zero salvage value. Production will require an investment in net working capital of $410,000 to be returned at the end of the project, and the equipment can be sold for $335,000 at the end of production. Fixed costs are $585,000 per year, and variable costs are $78 per unit. In addition to the contract, you feel your company can sell 12,000, 14,100, 18,200, and 10,700 additional units to companies in other countries over the next four years, respectively, at a price of $179. This price is fixed. The tax rate is 23 percent, and the required return is 11 percent. Additionally, the president of the company will undertake the project only if it has an NPV of $150,000. What bid price should you set for the contract? (Do not round intermediate calculations and round your answer to 2 decimal places, e.g., 32.16.)
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Expert Solution
| Tax rate | 23% | ||||||
| Calculation of annual depreciation | |||||||
| Depreciation | Year-1 | Year-2 | Year-3 | Year-4 | Total | ||
| Cost | $ 3,400,000 | $ 3,400,000 | $ 3,400,000 | $ 3,400,000 | |||
| Dep Rate (1/4=25%) | 25.00% | 25.00% | 25.00% | 25.00% | |||
| Depreciation | Cost * Dep rate | $ 850,000 | $ 850,000 | $ 850,000 | $ 850,000 | $ 3,400,000 | |
| Calculation of after-tax salvage value | |||||||
| Cost of machine | $ 3,400,000 | ||||||
| Depreciation | $ 3,400,000 | ||||||
| WDV | Cost less accumulated depreciation | $ - | |||||
| Sale price | $ 335,000 | ||||||
| Profit/(Loss) | Sale price less WDV | $ 335,000 | |||||
| Tax | Profit/(Loss)*tax rate | $ 77,050 | |||||
| Sale price after-tax | Sale price less tax | $ 257,950 | |||||
| Calculation of annual operating cash flow | |||||||
| Year-1 | Year-2 | Year-3 | Year-4 | ||||
| No of units | 12,000 | 14,100 | 18,200 | 10,700 | |||
| Selling price | $ 179 | $ 179 | $ 179 | $ 179 | |||
| Operating ost | $ 78 | $ 78 | $ 78 | $ 78 | |||
| Sale | $ 2,148,000 | $ 2,523,900 | $ 3,257,800 | $ 1,915,300 | |||
| Less: Operating Cost | $ 936,000 | $ 1,099,800 | $ 1,419,600 | $ 834,600 | |||
| Less: Additional operating Cost for bidding units | 4950*78 | $ 386,100 | $ 386,100 | $ 386,100 | $ 386,100 | ||
| Contribution (Sale-operating cost-additional operating cost) | $ 825,900 | $ 1,038,000 | $ 1,452,100 | $ 694,600 | |||
| Less: Fixed cost | $ 585,000 | $ 585,000 | $ 585,000 | $ 585,000 | |||
| Less: Depreciation | $ 850,000 | $ 850,000 | $ 850,000 | $ 850,000 | |||
| Profit before tax (PBT) | $ (609,100) | $ (397,000) | $ 17,100 | $ (740,400) | |||
| Tax@23% | PBT*Tax rate | $ (140,093) | $ (91,310) | $ 3,933 | $ (170,292) | ||
| Profit After Tax (PAT) | PBT - Tax | $ (469,007) | $ (305,690) | $ 13,167 | $ (570,108) | ||
| Add Depreciation | PAT + Dep | $ 850,000 | $ 850,000 | $ 850,000 | $ 850,000 | ||
| Cash Profit after-tax | $ 380,993 | $ 544,310 | $ 863,167 | $ 279,892 | |||
| Calculation of NPV | |||||||
| 11.00% | |||||||
| Year | Capital | Working capital | Operating cash | Annual Cash flow | PV factor, 1/(1+r)^time | Present values | |
| 0 | $ (3,400,000) | $ (410,000) | $ (3,810,000) | 1.0000 | $ (3,810,000) | ||
| 1 | $ 380,993 | $ 380,993 | 0.9009 | $ 343,237 | |||
| 2 | $ 544,310 | $ 544,310 | 0.8116 | $ 441,774 | |||
| 3 | $ 863,167 | $ 863,167 | 0.7312 | $ 631,140 | |||
| 4 | $ 257,950 | $ 410,000 | $ 279,892 | $ 947,842 | 0.6587 | $ 624,373 | |
| Net Present Value | $ (1,769,476) | ||||||
| NPV from outside selling | $ 1,769,475.70 | ||||||
| NPV required from complete project | $ 150,000.00 | ||||||
| Total NPV required | $ 1,919,475.70 | ||||||
| So we will need after tax NPV of bid price equal to $ 1,919,475.70 | |||||||
| Sum of PV factor from T1 to T4 |
&
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4,300 voice recognition (VR) computer keyboards a year for four
years. Due to technological improvements, beyond that time they
will be outdated and no sales will be possible. The equipment
necessary for the production will cost $3.9 million and will be
depreciated on a straight-line basis to a zero salvage value.
Production will require an investment in net working capital of
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3,700 voice recognition (VR) computer keyboards a year for four
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necessary for the production will cost $3.3 million and will be
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