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 1?

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

c) What is the NPV of the project?

Answer 1

CALCULATION OF PV OF CASH OUTFLOWS :

COST OF MACHINE = $419159

PV VALUE OF CASH OUTFLOWS = $419159

CALCULATION OF DEPRECIATION OF THE MACHINERY :

LIFE OF THE MACHINERY = 5 YEARS

DEPRECIATION = $419159/5

=$83831.8

CALCULATION OF CAPITAL GAIN :

COST OF MACHINERY = $419519

DEPRECIATION FOR 2 YEARS=$167663.6

VALUE OF MACHINERY AFTER 2 YEARS =$251495.4

SALVAGE VALUE OF MACHINERY =$135832

NET LOSS ON SALE =$251495.4 - $135832

=$115663.4

SO WE GET TAX SHIELD OF 40% ON LOSS

TAX SHIELD = $115663.4*40%

= $46265.36

CALCULATION OF CASH FLOWS :

PARTICULARS	YEAR-2	YEAR-1
PUTTER PRICE	$64.17	$64.17
COGS@41%(64.17*41%)	($26.31)	($26.31)
SELLING&ADMINISTRATIVE"18%	($11.55)	($11.55)
NET RETURNS PER PUTTER(a)	$26.31	$26.31
UNITS SOLD(b)	19136	11665
TOTAL RETURNS(a*b)	$503468.16	$306906.15
DEPRECIATION	($83831.8)	($83831.8)
NET RETURNS	$419636.36	$223074.35
TAX @40%	($167854.544)	($89229.74)
NET INCOME	251781.816	113844.61
+DEPRECIATION	$83831.8	$83831.8
+TAX SHIELD	0	$46265.36
+SALVAGE VALUE	0	$135,832
TOTAL CASH INFLOWS	$335613.616	379773.77
PVF@15%	0.869	0.756
PV OF CASH INFLOWS	$291648.23	$287108.97

A) CALCULATION OF CASH FLOWS FOR YEAR-1:

P.V OF CASH INFLOWS=$291648.23

P.V OF CASH OUTFLOWS=$419159

P.V OF NET CASH FLOWS= -$127510.77

B) CALCULATION OF CASH FLOWS FOR YEAR-2:

P.V OF CASH INFLOWS=$287108.97

P.V OF CASH OUTFLOWS=0

P.V OF NET CASH FLOWS=$287108.97

C) CALCULATION OF NPV:

NPV = P.V VALUE OF CASH INFLOWS - P.V OF CASH OUTFLOWS

=$291648.23+$287108.97-$419159

NPV=$159598.2

THEREFORE NPV IS POSITIVE SO IT IS BETTER TO INVEST IN THE PROJECT.