McGilla Golf has decided to sell a new line of golf clubs and would like to know
ID: 2730278 • Letter: M
Question
McGilla Golf has decided to sell a new line of golf clubs and would like to know the sensitivity of NPV to changes in the price of the new clubs and the quantity of new clubs sold. The clubs will sell for $780 per set and have a variable cost of $380 per set. The company has spent $148,000 for a marketing study that determined the company will sell 52,000 sets per year for seven years. The marketing study also determined that the company will lose sales of 9,300 sets of its high-priced clubs. The high-priced clubs sell at $1,080 and have variable costs of $680. The company will also increase sales of its cheap clubs by 10,800 sets. The cheap clubs sell for $420 and have variable costs of $220 per set. The fixed costs each year will be $9,080,000. The company has also spent $1,090,000 on research and development for the new clubs. The plant and equipment required will cost $28,560,000 and will be depreciated on a straight-line basis. The new clubs will also require an increase in net working capital of $1,280,000 that will be returned at the end of the project. The tax rate is 36 percent, and the cost of capital is 10 percent. What is the sensitivity of the NPV to each of these variables? (Do not round intermediate calculations and round your final answers to 2 decimal places (e.g., 32.16).)
Explanation / Answer
Marketing study and Research and development are suck costs so they have to to ignored.
Effect on Sales:
New clubs =$ 780*52000 =$40560000
High priced clubs = $1080*9300 =($10044000)
Cheap Clubs = $420*10800 =$4536000
Total increase in sales =$35052000
Effect on Variable cost:
New clubs =$ 380*52000 =$(19760000)
High priced clubs = $680*9300 =$6324000
Cheap Clubs = $220*10800 =$(2376000)
Note:Variable cost on decreased High price club is income.
Income statement
Sales = $35052000
less:
Variable costs =$15812000
Fixed costs =$9080000
Depreciation@SLM 7years =$4080000
EBIT =$6080000
Tax@36% =$2188800
Net Income =$3891200
Operating cash flow =3891200+4080000 =$ 7971200
NPV =($28560000)+(1280000)+$7971200(PVIFA 10%,7)+$1280000/1.10^7
=(29840000)+7971200*4.868+1280000/1.9487
=$9620650
Sensivity of NPV to changes in price
lets assume price of new club as $800
New clubs =$ 800*52000 =$41600000
High priced clubs = $1080*9300 =($10044000)
Cheap Clubs = $420*10800 =$4536000
Total increase in sales =$36092000
Effect on Variable cost:
New clubs =$ 380*52000 =$(19760000)
High priced clubs = $680*9300 =$6324000
Cheap Clubs = $220*10800 =$(2376000)
Note:Variable cost on decreased High price club is income.
Income statement
Sales = $36092000
less:
Variable costs =$15812000
Fixed costs =$9080000
Depreciation@SLM 7years =$4080000
EBIT =7120000
Tax@36% =2563200
Net Income =$4556800
Operating cash flow =4556800+4080000 =$ 8636800
NPV =($28560000)+(1280000)+$8636800(PVIFA 10%,7)+$1280000/1.10^7
=(29840000)+8636800*4.868+1280000/1.9487
=$12860790
Change in NPV/Change in Price =(9620650-12860790)/(780-800)
=$162007
For every dollar increase in price,NPV increases by $162007.
Sensivity of NPV to changes in price
lets assume price of new club as $800
New clubs =$ 800*52000 =$41600000
High priced clubs = $1080*9300 =($10044000)
Cheap Clubs = $420*10800 =$4536000
Total increase in sales =$36092000
Effect on Variable cost:
New clubs =$ 380*52000 =$(19760000)
High priced clubs = $680*9300 =$6324000
Cheap Clubs = $220*10800 =$(2376000)
Note:Variable cost on decreased High price club is income.
Income statement
Sales = $36092000
less:
Variable costs =$15812000
Fixed costs =$9080000
Depreciation@SLM 7years =$4080000
EBIT =7120000
Tax@36% =2563200
Net Income =$4556800
Operating cash flow =4556800+4080000 =$ 8636800
NPV =($28560000)+(1280000)+$8636800(PVIFA 10%,7)+$1280000/1.10^7
=(29840000)+8636800*4.868+1280000/1.9487
=$12860790
Change in NPV/Change in Price =(9620650-12860790)/(780-800)
=$162007
For every dollar increase in price,NPV increases by $162007.
Sensivity of NPV to changes in Variable cost
New clubs =$ 780*52000 =$40560000
High priced clubs = $1080*9300 =($10044000)
Cheap Clubs = $420*10800 =$4536000
Total increase in sales =$35052000
Effect on Variable cost:
Lets assume variable cost of new club as $400
New clubs =$ 400*52000 =$(20800000)
High priced clubs = $680*9300 =$6324000
Cheap Clubs = $220*10800 =$(2376000)
Note:Variable cost on decreased High price club is income.
Income statement
Sales = $35052000
less:
Variable costs =$16852000
Fixed costs =$9080000
Depreciation@SLM 7years =$4080000
EBIT =5040000
Tax@36% =1814400
Net Income =$3225600
Operating cash flow =3225600+4080000 =$ 7305600
NPV =($28560000)+(1280000)+$7305600(PVIFA 10%,7)+$1280000/1.10^7
=(29840000)+7305600*4.868+1280000/1.9487
=$6380509
Change in NPV/Change in Variable cost =(9620650-6380509)/(380-400)
=$(162007)
For every dollar increase in variable cost,NPV decreases by $162007.