Could someone please help me understand and resolve this case? Thank you! CASE 1

Question

Could someone please help me understand and resolve this case? Thank you!

CASE 15 Phelps Toy Company The Phelps Toy Company was considering the advisability of adding a new product to its line. Ike Barnes was in charge Since the founding of the company in 1988, he had seen sales grow from S150,000 a ycar to almost S40 million in 2006. Although the A market survey by Ikes Barnes indicated that the Topps Chewing Gum Compan industry. The company actually had a public distribution of its common stock in 2001. Other major sellers in 2007 were Upper Deck, Fleer, Leaf, and Donruss. All produce milons of baseball cards on an annual basis. The cards can be purchased in packs of 15-20 cards for S1.00-S3.00 at drug or convenience stores or in boxes of 700-800 cards for $20 and up. These larger quantities of cards were usually purchased from sport card specialty stores or at baseba card conventions (over 1,000 such conventions throughout the country took place a year). y was the largest competitor in the ncw firm had initially started out manufacturing toy trucks, it had diversified into such items as puzzles, stuffed animals, wall posters, miniature trains, and board games. In 2000, it developed the third most popular board game for the year, based on a popular television quiz show, but the show was canceled two years later. Nevertheless, the fim learned its lesson well and continued to produce board games related not only to quiz shows but to situation comedies and In doing his analysis, Mr. Barnes discovered that the appeal of bascball cards was not only in opening a wrapper and finding a favorite player enclosed but also that many baseball cards initially purchased for pennies had gained substantially in value. Once a player achieved star status, his rookie card (first issued) might greatly increase in worth. even a popular detective series However, by January of 2007, the need was becoming evident. As can be seen in Figure 1, sales and net income were beginning to level off after the previously cited phenomenal growth. After doing a market analysis of possible products, Mr. Barnes decided that the baseball card market was a good area for potential new sales. Baseball cards were a popular product not only among youngsters but also among adults who were trying to to generate new products Some packs are more expensive than others due to quality and buyer preference recapture the experience of their youth.

Explanation / Answer

Here in the case sales forecast for the first year is given: Assumption Sales Probability Sales x Probability Pessimistic 1100000 0.25 275000 Normal 2000000 0.4 800000 Optimistic 3750000 0.2 750000 Highly optimistic 4500000 0.15 675000 Total 2500000 Therefore Expected sales = $2,500,000.00 The sales is expected to grow at different rates in subsequent years Year Rate of Growth 2 20% 3 20% 4 20% 5 10% 6 10% Operating expenses are expected to be 70% of actual sales Cost of equipment = $2,800,000 On this equipment depreciation as per 5 years MACRS is applied The rate of depreciation will be Year Rate Depreciation 1 20% $560,000 2 32% $896,000 3 19.20% $537,600 4 11.52% $322,560 5 11.52% $322,560 6 5.76% $161,280 Year 1 2 3 4 5 6 Sales 2500000 3000000 3600000 4320000 4752000 5227200 Operating expenses 1750000 2100000 2520000 3024000 3326400 3659040 EBDT 750000 900000 1080000 1296000 1425600 1568160 Depreciation 560000 896000 537600 322560 322560 161280 Earning Before Tax 190000 4000 542400 973440 1103040 1406880 Tax (34%) 64600 1360 184416 330969.6 375033.6 478339.2 Earning After Tax 125400 2640 357984 642470.4 728006.4 928540.8 Cash Flows (Earning After Tax+Depreciation) 685400 898640 895584 965030.4 1050566 1089821 Now we will calculate the coefficient of variation for the firm CV = (Standard deviation / Investment made) *100% Here standard deviation = 1226000 and Investment made = 2800000 therefore CV = 43.79% As this is the CV for the firm therefore firms discount rate = 14% by using figure 13 given in the question Therefore we will now calculate the NPV of the project by using 14% discount rate. NPV (at 14%) $710,710.49 The NPV is positive so the project should be accepted.

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