McGilla Golf has decided to sell a new line of golf clubs. The clubs will sell f
ID: 2730697 • Letter: M
Question
McGilla Golf has decided to sell a new line of golf clubs. The clubs will sell for $840 per set and have a variable cost of $440 per set. The company has spent $154,000 for a marketing study that determined the company will sell 58,000 sets per year for seven years. The marketing study also determined that the company will lose sales of 9,900 sets of its high-priced clubs. The high-priced clubs sell at $1,140 and have variable costs of $740. The company will also increase sales of its cheap clubs by 11,400 sets. The cheap clubs sell for $480 and have variable costs of $250 per set. The fixed costs each year will be $9,140,000. The company has also spent $1,150,000 on research and development for the new clubs. The plant and equipment required will cost $28,980,000 and will be depreciated on a straight-line basis. The new clubs will also require an increase in net working capital of $1,340,000 that will be returned at the end of the project. The tax rate is 38 percent, and the cost of capital is 10 percent. Suppose you feel that the values are accurate to within only ±10 percent. What are the best-case and worst-case NPVs? (Hint: The price and variable costs for the two existing sets of clubs are known with certainty; only the sales gained or lost are uncertain.)
Explanation / Answer
Base Case Initial Investment -28980000 Increase in NWC -1340000 Annual EBDT Net Income from Sale of New clubs (840-440)*58000 23200000 Less: Loss of Income from sale of high priced clubs (1140-740)*9900 3960000 Add:Inc. Income from sale of cheap clubs (480-250)*11400 2622000 21862000 Less : Fixed costs 9140000 12722000 Less: Depreciation 28980000/7 4140000 EBT 8582000 Tax @ 38% 3261160 EAT 5320840 Add Back depreciation 4140000 Annual OCF 9460840 PVOA 10%, 7 yrs. F 4.86842*9460840 46059343 Restoration of NWC PV F 10% ,7 0.51316*1340000 687634 NPV of the project 16426977 Sales gained down by 10%ie.11400*90%= 10260 clubs & Sales lost up by 10% ie.9900*110% = 10890 clubs(WORST) Initial Investment -28980000 Increase in NWC -1340000 Annual EBDT Net Income from Sale of New clubs (840-440)*58000 23200000 Less: Loss of Income from sale of high priced clubs (1140-740)*10890 4356000 Add:Inc. Income from sale of cheap clubs (480-250)*10260 2359800 21203800 Less : Fixed costs 9140000 12063800 Less: Depreciation 28980000/7 4140000 EBT 7923800 Tax @ 38% 3011044 EAT 4912756 Add Back depreciation 4140000 Annual OCF 9052756 PVOA 10%, 7 yrs. F 4.86842*9052756 44072618 Restoration of NWC PV F 10% ,7 0.51316*1340000 687634 NPV of the project 14440253 Sales gained up by 10%ie.11400*110%= 12540 clubs & Sales lost down by 10% ie.9900*90% = 8910 clubs(BEST) Initial Investment -28980000 Increase in NWC -1340000 Annual EBDT Net Income from Sale of New clubs (840-440)*58000 23200000 Less: Loss of Income from sale of high priced clubs (1140-740)*8910 3564000 Add:Inc. Income from sale of cheap clubs (480-250)*12540 2884200 22520200 Less : Fixed costs 9140000 13380200 Less: Depreciation 28980000/7 4140000 EBT 9240200 Tax @ 38% 3511276 EAT 5728924 Add Back depreciation 4140000 Annual OCF 9868924 PVOA 10%, 7 yrs. F 4.86842*9868924 48046067 Restoration of NWC PV F 10% ,7 0.51316*1340000 687634 NPV of the project 18413701 NPVs Base 16426977 Best 18413701 Worst 14440253