FN-530 - Capital Budgeting Problem Aunt Sally\'s Foods, Inc. is a full line prod
ID: 2633283 • Letter: F
Question
FN-530 - Capital Budgeting Problem
Aunt Sally's Foods, Inc. is a full line producer and distributor of ready to use jarred food products such as gravies and sauces. Their products are well received in the marketplace competing with such brand names as Franco-American, Ragu and Heinz. Consider the following expansion opportunity for Aunt Sally's Foods, Inc. Sally is considering expansion into a new line of all natural, cholesterol free, low sodium, low-calorie tomato sauces. Sally has paid $100,000 for a marketing study to assist in this and other potential valuations. The study indicates that the new product will have sales of $1,900,000 per year for each of the next 6 years. However, existing product line sales will be reduced by $200,000 per year. Manufacturing plant and equipment will cost $1,100,000 and will be depreciated on the straight-line method to zero with a 10% market value at the end of 6 years. Annual fixed costs are projected at $160,000 per year and variable costs are projected at 60% of sales. Also, an initial working capital outlay of $150,000 will be required which will be recaptured at the end of the 6 years. Sally's tax rate is 35% and the firm requires an 18% return.
Based on the following criteria:
1) Net Present Value, and 2) Internal Rate of Return, should Sally undertake this project? (Please round to the nearest dollar on all calculations)
Explanation / Answer
Sally can undertake this project because the IRR = 13.11%
To calculate IRR year cash flows PV @14% Present value 1 $665,000 0.877 $583,205 2 $665,000 0.769 $511,385 3 $665,000 0.675 $448,875 4 $665,000 0.592 $393,680 5 $665,000 0.519 $345,135 6 $665,000 0.456 $303,240 $3,990,000 $2,585,520 Annuity = 665,000 cash outflows - cash inflows = -64,480 payback period = 2,650,000 /665,000 year cash flows PV @ 13% Pay back period = 3.98 1 $665,000 588,525 2 $665,000 $520,695 Discount factor = 14% 3 $665,000 $460,845 4 $665,000 $407,645 5 $665,000 $361,095 6 $665,000 $319,200 $2,658,005 cash outflows -cash inflows = 2,658,005 - 2,650,000 = 8005 IRR = 13% + 8005/ 2,658,005 - 2,585,520 IRR= 13.11 %Related Questions
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