You are evaluating a project for The Ultimate recreational tennis racket, guaran

Question

You are evaluating a project for The Ultimate recreational tennis racket, guaranteed to correct that wimpy backhand. You estimate the sales price of The Ultimate to be $300 per unit and sales volume to be 1,000 units in year 1; 1,250 units in year 2; and 1,325 units in year 3. The project has a 3-year life. Variable costs amount to $175 per unit and fixed costs are $100,000 per year. The project requires an initial investment of $135,000 in assets, which will be depreciated on a straight-line basis with a life of 3 years. The actual market value of these assets at the end of year 3 is expected to be $25,000. NWC requirements at the beginning of each year will be approximately 20 percent of the projected sales during the coming year. The tax rate is 39 percent and the required return on the project is 12 percent. (Use SL depreciation table) What will the cash flows for this project be? (Negative amounts should be indicated by a minus sign. Do not round intermediate calculations and round your answers to 2 decimal places.)

Explanation / Answer

Year 0 1 2 3 Sales in units 1,000 1,250 1,325 Sales price per unit $ 300 $ 300 $ 300 Total sales revenues $ 300,000 $ 375,000 $ 397,500 Less Variable costs ( @ $ 175 per unit) $ 175,000 $ 218,750 $ 231,875 Less Fixed costs $ 100,000 $ 100,000 $ 100,000 Less depreciation expense $ 36,667 $ 36,667 $ 36,666 Operating income $ ( 11,667) $ 19,583 $ 28,959 After-tax income $ (11,667) $ 11,945.63 $ 17,664.99 Depreciation added back $ 36,667 $ 36,667 $ 36,666 Operating cash flows $ 25,000 $ 48,612.63 $ 54,330.99 Salvage proceeds $ 25,000 Initial investment (135,000) NWC requirements (60,000) (75,000) ( 79,500) Net cash flows (195,000) (50,000) ( 30,887.37) 79,330.99

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