McGilla Golf has decided to sell a new line of golf clubs. The clubs will sell f
ID: 2795446 • Letter: M
Question
McGilla Golf has decided to sell a new line of golf clubs. The clubs will sell for $900 per set and have a variable cost of $500 per set. The company has spent $159,000 for a marketing study that determined the company will sell 55,000 sets per year for seven years. The marketing study also determined that the company will lose sales of 11,000 sets of its high-priced clubs. The high-priced clubs sell at $1,190 and have variable costs of S790. The company will also increase sales of its cheap clubs by 11,500 sets. The cheap clubs sell for $530 and have variable costs of $275 per set. The fixed costs each year will be $9,190,000. The company has also spent $1,200,000 on research and development for the new clubs. The plant and equipment required will cost $29,330,000 and will be depreciated on a straight-line basis. The new clubs will also require an increase in net working capital of $1,390,000 that will be returned at the end of the project. The tax rate is 40 percent, and the cost of capital is 12 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.) (Negative amounts should be indicated by a minus sign. Do not round intermediate calculations and round your answers to 2 decimal places, NPV Best-case $ 4235771 Worst-caseExplanation / Answer
Step 1: Determine Various Factors to be Used in Calculation of Worst Case NPV
The various factors to be used in the calculation of Worst-Case NPV are determined as below:
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Step 2: Calculate Total Sales Value and Total Variable Cost under Worst Case Scenario
The value of total sales and total variable cost is arrived as below:
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Step 3: Calculate Operating Cash Flow
The value of operating cash flow is calculated as flows:
_____
Step 4: Calculate NPV
The formula for calculating NPV is given as below:
NPV = Cash Flow Year 0 + Cash Flow Year 1/(1+Cost of Capital)^1 + Cash Flow Year 2/(1+Cost of Capital)^2 + Cash Flow Year 3/(1+Cost of Capital)^3 + Cash Flow Year 4/(1+Cost of Capital)^4 + Cash Flow Year 5/(1+Cost of Capital)^5 + Cash Flow Year 6/(1+Cost of Capital)^6 + Cash Flow Year 7/(1+Cost of Capital)^7
Using the values calculated above and information provided in the question, we get,
NPV = -29,330,000 - 1,390,000 + 2,012,150/(1+12%)^1 + 2,012,150/(1+12%)^2 + 2,012,150/(1+12%)^3 + 2,012,150/(1+12%)^4 + 2,012,150/(1+12%)^5 + 2,012,150/(1+12%)^6 + (2,012,150 + 1,390,000)/(1+12%)^7 = -$20,908,272
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Notes:
There can be a difference in final answer on account of rounding off values.
Unit Sales (New) [55,000 - 10%*55,000] 49,500 Sales Price (New) [900 - 10%*900] 810 Variable Cost (New) [500 + 10%*500] 550 Fixed Costs (9,190,000 + 10%*9,190,000) 10,109,000 Loss of Sales (Expensive) [11,000 + 10%*11,000] 12,100 Increase in Sales (Cheap) [11,500 - 10%*11,500] 10,350