McGilla Golf has decided to sell a new line of golf clubs. The clubs will sell f
ID: 2749714 • Letter: M
Question
McGilla Golf has decided to sell a new line of golf clubs. The clubs will sell for $740 per set and have a variable cost of $410 per set. The company has spent $189,000 for a marketing study that determined the company will sell 38,000 sets per year for seven years. The marketing study also determined that the company will lose sales of 8,000 sets of its high-priced clubs. The high-priced clubs sell at $1,290 and have variable costs of $720. The company will also increase sales of its cheap clubs by 8,000 sets. The cheap clubs sell for $480 and have variable costs of $120 per set. The fixed costs each year will be $7,560,000. The company has also spent $983,000 on research and development for the new clubs. The plant and equipment required will cost $21,000,000 and will be depreciated on a straight-line basis. The new clubs will also require an increase in net working capital of $914,000 that will be returned at the end of the project. The tax rate is 34 percent, and the cost of capital is 14 percent.
Suppose you feel that the values are accurate to within only ±6 percent. The best-case NPV is $ and worst-case NPV is $. (Do not include the dollar signs ($). Negative amount should be indicated by a minus sign. Round your answers to 2 decimal places. (e.g., 32.16)) (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.)
McGilla Golf has decided to sell a new line of golf clubs. The clubs will sell for $740 per set and have a variable cost of $410 per set. The company has spent $189,000 for a marketing study that determined the company will sell 38,000 sets per year for seven years. The marketing study also determined that the company will lose sales of 8,000 sets of its high-priced clubs. The high-priced clubs sell at $1,290 and have variable costs of $720. The company will also increase sales of its cheap clubs by 8,000 sets. The cheap clubs sell for $480 and have variable costs of $120 per set. The fixed costs each year will be $7,560,000. The company has also spent $983,000 on research and development for the new clubs. The plant and equipment required will cost $21,000,000 and will be depreciated on a straight-line basis. The new clubs will also require an increase in net working capital of $914,000 that will be returned at the end of the project. The tax rate is 34 percent, and the cost of capital is 14 percent.
Suppose you feel that the values are accurate to within only ±6 percent. The best-case NPV is $ and worst-case NPV is $. (Do not include the dollar signs ($). Negative amount should be indicated by a minus sign. Round your answers to 2 decimal places. (e.g., 32.16)) (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
Initial investment = 21,000,000
This is depreciated on a straight line basis for 7 years, which will provide depreciation tax shield each year
Cash flow generated each year = EBIT *(1-tax)
EBIT = Revenue - cost
Best Case:
New golf balls sales are +6% = 38,000 * (1+6%) = 40280
Decrease in sales of high price clubs is -6% = 8000 * (1-6%) = 7520
Increase in sales of cheap clubs is +6% = 8000 * (1+6%) = 8480
So EBIT can be calculated as follows
EBIT = 40280 * (740-410) - 7520 * (1290 - 720) + 8480 * (480-120) - 7560000 = 4,498,800
Year 0 cash flows = -21,000,000-914,000 = -21,914,000
Year 7 cash flows = 4,498,800 + 914,000 = 5,412,800
So all cash flows are as follows
NPV can be calculated as follows
NPV = NPV(14%,A1:A7)-21914000 = -4,565,982.81
Worst Case:
New golf balls sales are -6% = 38,000 * (1-6%) = 35720
Decrease in sales of high price clubs is +6% = 8000 * (1+6%) = 8480
Increase in sales of cheap clubs is -6% = 8000 * (1-6%) = 7520
So EBIT can be calculated as follows
EBIT = 35720 * (740-410) - 8480 * (1290 - 720) + 7520 * (480-120) - 7560000 = 2101200
Year 0 cash flows = -21,000,000-914,000 = -21,914,000
Year 7 cash flows = 2101200 + 914,000 = 3,015,200
So all cash flows are as follows
NPV can be calculated as follows
NPV = NPV(14%,A1:A7)-21914000 = -11,351,865.00
Cash flow Tax Rate After tax Cash Flow Machine Depreciation value Depreciation Tax Shield Total net cash flows Year 0 (21,914,000.00) 34% (21,914,000.00) - - (21,914,000.00) Year 1 4,498,800.00 34% 2,969,208.00 3,000,000.00 1,020,000.00 3,989,208.00 Year 2 4,498,800.00 34% 2,969,208.00 3,000,000.00 1,020,000.00 3,989,208.00 Year 3 4,498,800.00 34% 2,969,208.00 3,000,000.00 1,020,000.00 3,989,208.00 Year 4 4,498,800.00 34% 2,969,208.00 3,000,000.00 1,020,000.00 3,989,208.00 Year 5 4,498,800.00 34% 2,969,208.00 3,000,000.00 1,020,000.00 3,989,208.00 Year 6 4,498,800.00 34% 2,969,208.00 3,000,000.00 1,020,000.00 3,989,208.00 Year 7 5,412,800.00 34% 3,572,448.00 3,000,000.00 1,020,000.00 4,592,448.00