McGilla Golf has decided to sell a new line of golf clubs. The clubs will sell f
ID: 2759608 • Letter: M
Question
McGilla Golf has decided to sell a new line of golf clubs. The clubs will sell for $744 per set and have a variable cost of $374 per set. The company has spent $164,000 for a marketing study that determined the company will sell 76,400 sets per year for seven years. The marketing study also determined that the company will lose sales of 9,900 sets per year of its high-priced clubs. The high-priced clubs sell at $1,340 and have variable costs of $680. The company will also increase sales of its cheap clubs by 12,400 sets per year. The cheap clubs sell for $354 and have variable costs of $139 per set. The fixed costs each year will be $11,340,000. The company has also spent $1,140,000 on research and development for the new clubs. The plant and equipment required will cost $25,480,000 and will be depreciated on a straight-line basis. The new clubs will also require an increase in net working capital of $1,640,000 that will be returned at the end of the project. The tax rate is 34 percent, and the cost of capital is 12 percent.Calculate the payback period, the NPV, and the IRR.
Explanation / Answer
NPV
Payback period is the time by which undiscounted cashflow cover the intial investment outlay
this is happening between year 1 and 2
there fore payback period = 1 + (0-(-1158800))/(24802400-(-1158800)) = 1.044years
IRR
Time line 0 1 2 3 4 5 6 7 Equipment cost -25480000 +Increase in working capital -1640000 =Initial Investment outlay -27120000 Sales of new club line No. of units*(selling price - variable cost) 28268000 28268000 28268000 28268000 28268000 28268000 28268000 -Decrease in sale of high price club Lost units*(selling price - variable cost) -6534000 -6534000 -6534000 -6534000 -6534000 -6534000 -6534000 +Increase in sale of cheap clubs Gained units*(selling price - variable cost)` 2666000 2666000 2666000 2666000 2666000 2666000 2666000 Net sales of project 24400000 24400000 24400000 24400000 24400000 24400000 24400000 -Fixed cost -11340000 -11340000 -11340000 -11340000 -11340000 -11340000 -11340000 -Depreciation (cost of equipment and plant)/7 -3640000 -3640000 -3640000 -3640000 -3640000 -3640000 -3640000 = 33820000 33820000 33820000 33820000 33820000 33820000 33820000 -taxes =(net sales - fixed cost - depreciation)*(1-tax) 22321200 22321200 22321200 22321200 22321200 22321200 22321200 +Depreciation 3640000 3640000 3640000 3640000 3640000 3640000 3640000 =after tax operating cash flow 25961200 25961200 25961200 25961200 25961200 25961200 25961200 Reversal of Increase in working capital 27120000 = Terminal year after tax non operating CF 27120000 Total Cash flow -27120000 25961200 25961200 25961200 25961200 25961200 25961200 53081200 Cumulative CF -27120000 -1158800 24802400 50763600 76724800 102686000 128647200 181728400 Cost of capital = 10% 12% Discount factor = (1 + cost of capital) ^ corresponding period 1 1.12 1.2544 1.404928 1.57351936 1.762341683 1.973822685 2.210681407 Discounted cashflow = total cash flow/discount factor -27120000 23179642.86 20696109.69 18478669.37 16498811.94 14731082.09 13152751.86 24011239.17 NPV= Sum of discounted cash flow = 103628307