Otobai Company in Osaka, Japan is considering the introduction of an electricall

Question

Otobai Company in Osaka, Japan is considering the introduction of an electrically powered motor scooter for city use. The scooter project requires an initial investment of ¥16.2 billion. The cost of capital is 12%. The initial investment can be depreciated on a straight-line basis over the 10-year life of the project. Profits are taxed at a rate of 50%. Consider the following project estimates: Market size 1.22 million Market share .1 Unit price ¥ 520,000 Unit variable cost ¥ 480,000 Fixed cost ¥ 2.12 billion What is the NPV of the electric scooter project? (A negative amount should be indicated by a minus sign. Do not round intermediate calculations. Enter your answer in billions rounded to 3 decimal places.) Net present value ¥ billion

Explanation / Answer

Initial investment in the project = Yen16.2 billion

Cost of capital = 12%

Life of the project = 10 Years

Annual depreciation = Initial investment in the project/Life of the project

= 16.2/10

= Yen 1.62 billion

Tax rate = 50%

Total market size = 1.22 million

Market share of Otobai Company = 0.1

Hence, number of scooters to be sold by Otobai Company = 1.22 x 0.1 million

= 0.122 million

Present value of cash inflows = Cash inflow after tax x PVAF(12%, 10 )

= 2.19 x 5.650

= Yen 12.3735 billion

NPV of the project = Present value of cash inflows - Cost of the project

= 12.3735 - 16.2

= - Yen 3.826 billion

Since NPV of the project is negative, hence it should not be undertaken.

Unit price Yen 520,000 Less:Unit variable cost -Yen 480,000 Contribution per unit (i) Yen 40,000 Number of units to be sold (ii) 0.122 million Total contribution (i) x (ii) Yen 4.88 billion Less:Fixed cost -Yen 2.12 billion Profit before depreciation Yen 2.76 billion Less: Depreciation -Yen 1.62 billion Profit before tax Yen 1.14 billion Less: Tax @ 50% -Yen 0.57 billion Profit after tax Yen 0.57 billion Add: Depreciation Yen 1.62 billion Cash inflow after tax Yen 2.19 billion

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