Innovation company is thinking about marketing a new software product l. Upfront

Question

Innovation company is thinking about marketing a new software product l. Upfront costs to market and develop the product are $4.96 million. The product is expected to generate profits of $1.14 million per head for ten years. The company will have to provide product support expected to cost $94,000 per year in perpetuity. Assume all profits and expenses occur at the end of the year. A. What is the NPV of this investment if the cost of capital is 6.4%? Repeat with discount rates of 1.2% and 15.3% B. What is the IRR of this investment Innovation company is thinking about marketing a new software product l. Upfront costs to market and develop the product are $4.96 million. The product is expected to generate profits of $1.14 million per head for ten years. The company will have to provide product support expected to cost $94,000 per year in perpetuity. Assume all profits and expenses occur at the end of the year. A. What is the NPV of this investment if the cost of capital is 6.4%? Repeat with discount rates of 1.2% and 15.3% B. What is the IRR of this investment A. What is the NPV of this investment if the cost of capital is 6.4%? Repeat with discount rates of 1.2% and 15.3% B. What is the IRR of this investment

Explanation / Answer

PV of cost of support = 94,000/r

A)

B) IRR shall be the rate at which NPV is 0.
The nearest is 15.3% so we shall undertake hit and trial method to achieve the same.

Hence IRR =15.78%

B)

All figures in million dollar Rate 6.40% Upfront cost Perpetuity cost Total costs Year 0 4.96 1.46875 $   -6.4288 1 $     1.1400 2 $     1.1400 3 $     1.1400 4 $     1.1400 5 $     1.1400 6 $     1.1400 7 $     1.1400 8 $     1.1400 9 $     1.1400 10 $     1.1400 NPV $     1.8050

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