Question

Assume that McDonald’s is considering expanding its product line to include one new sandwich. The estimated cash flows for 2 options are listed below. The required return is 18%. What do you recommend? Why?

  

                  Cash flows in millions

Year	Sandwich A	Sandwich B
0	-25,000	-72,000
1	16,000	30,000
2	16,000	30,000
3	3,000	15,000
4	3,000	10,000

Assume that neither sandwich would be sold after 4 years because McDonald’s assumes that neither sandwich will be profitable after 4 years.

Answer 1

Statement showing Cash flows			Sandwich A		Sandwich B
Particulars	Time	PVf 18%	Amount	PV
Cash Outflows	-	1.00	(25,000.00)	(25,000.00)	(72,000.00)	(72,000.00)
PV of Cash outflows = PVCO				(25,000.00)		(72,000.00)
Cash inflows	1.00	0.8475	16,000.00	13,559.32	30,000.00	25,423.73
Cash inflows	2.00	0.7182	16,000.00	11,490.95	30,000.00	21,545.53
Cash inflows	3.00	0.6086	3,000.00	1,825.89	15,000.00	9,129.46
Cash inflows	4.00	0.5158	3,000.00	1,547.37	10,000.00	5,157.89
PV of Cash Inflows =PVCI				28,423.53		61,256.61
NPV= PVCI - PVCO				3,423.53		(10,743.39)
We would recommend Sandwich A as it has positive NPV