Gregory Burton, the manager of the Toybest Company, would like to introduce a ne
ID: 2586993 • Letter: G
Question
Gregory Burton, the manager of the Toybest Company, would like to introduce a new toy, and he has received the following estimates of costs and sales from the various divisions of the firm. The cost of purchasing, delivering, and installing the new machinery that is required to manufacture the toy is estimated to be $10 million. The expected life of the toy is four years. Incremental sales revenues are estimated to be $10 million on the first year of operation, are expected to rise by 20% in the 2nd year and another 20% in the 3rd year, but they are expected to remain unchanged in the fourth and final year. The incremental variable costs of producing the toy are estimated to be 40 % of incremental sales revenues. The firm is also expected to incur additional fixed costs of $1 million per year.The marginal tax rate of the firm is 40% The firm uses the straight-line depreciation method. The machinery purchased will have no salvage value but the firm is expected to recuperate $1.5 million of its working capital at the end of the 4 years.
a. Construct a table summarizing the cash flows from the project
b. Calculate the NPV of the project if the firm uses the risk-adjusted discount rate 20 percent.
c. Should the firm undertake the project? If so, by how much would the value of the firm increase?
Explanation / Answer
2.
3. The Firm should accept the Project. The Value of the Firm would be increase by $ 2.54 Million
Table Summarising Cash low from the Project At the end of Year (In$ Million) 1st Year Beginning 1 2 3 4 Revenue from Operations 10.00 12.00 14.40 14.40 Cash Inflow 10.00 12.00 14.40 14.40 Purchase of Machine -10.00 Variable Costs -4.00 -4.80 -5.76 -5.76 Additional Fixed Costs -1.00 -1.00 -1.00 -1.00 Tax @ 40% -1.00 -1.48 -2.06 -2.06 Cash Outflow -10.00 -6.00 -7.28 -8.82 -8.82 Net Cash Flow -10.00 4.00 4.72 5.58 5.58 Working Notes Revenue 10.00 12.00 14.40 14.40 Calucuation of Depreciation 2.50 2.50 2.50 2.50 Variable Costs 4.00 4.80 5.76 5.76 Additional Fixed Costs 1.00 1.00 1.00 1.00 Profit 2.50 3.70 5.14 5.14 Tax @ 40% 1.00 1.48 2.06 2.06Related Questions
Navigate
Integrity-first tutoring: explanations and feedback only — we do not complete graded work. Learn more.