McGilla Golf has decided to sell a new line of golf clubs. The clubs will sell f
ID: 2771159 • Letter: M
Question
McGilla Golf has decided to sell a new line of golf clubs. The clubs will sell for $700 per set and have a variable cost of $300 per set. The company has spent $140,000 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 8,500 sets of its high-priced clubs. The high-priced clubs sell at $1,000 and have variable costs of $600. The company will also increase sales of its cheap clubs by 10,000 sets. The cheap clubs sell for $340 and have variable costs of $180 per set. The fixed costs each year will be $9,000,000. The company has also spent $1,010,000 on research and development for the new clubs. The plant and equipment required will cost $28,000,000 and will be depreciated on a straight-line basis. The new clubs will also require an increase in net working capital of $1,200,000 that will be returned at the end of the project. The tax rate is 35 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?Explanation / Answer
Note : to capture best case scenario
no. of units sold = 52000 * 1.1
Lost units of high club category = 8500 * .9
Increased units of Low club category = 10000 * 1.1
Note : to capture worst case scenario
no. of units sold = 52000 * .9
Lost units of high club category = 8500 * 1.1
Increased units of Low club category = 10000 * .9
Please comment if you do not understand any calculation. Thanks
Best case Time line 0 1 2 3 4 5 6 7 Equipment cost -28000000 +Increase in working capital -1200000 =Initial Investment outlay -29200000 Sales of new club line No. of units*(selling price - variable cost) 22880000 22880000 22880000 22880000 22880000 22880000 22880000 -Decrease in sale of high price club Lost units*(selling price - variable cost) -3060000 -3060000 -3060000 -3060000 -3060000 -3060000 -3060000 +Increase in sale of cheap clubs Gained units*(selling price - variable cost)` 1760000 1760000 1760000 1760000 1760000 1760000 1760000 Net sales of project 21580000 21580000 21580000 21580000 21580000 21580000 21580000 -Fixed cost -9000000 -9000000 -9000000 -9000000 -9000000 -9000000 -9000000 -Depreciation (cost of equipment and plant)/7 -4000000 -4000000 -4000000 -4000000 -4000000 -4000000 -4000000 = 30160000 30160000 30160000 30160000 30160000 30160000 30160000 -taxes =(net sales - fixed cost - depreciation)*(1-tax) 19604000 19604000 19604000 19604000 19604000 19604000 19604000 +Depreciation 4000000 4000000 4000000 4000000 4000000 4000000 4000000 =after tax perating cash flow 23604000 23604000 23604000 23604000 23604000 23604000 23604000 Reversal of Increase in working capital 1200000 = Terminal year after tax non operating CF 1200000 Total Cash flow -29200000 23604000 23604000 23604000 23604000 23604000 23604000 24804000 Cost of capital = 10%